Seco SpA

MIL:IOT

Earnings Call Transcript 2022-Q2

[Operator]

Good afternoon, everyone, and welcome to Seco's half year results and business update for 2022. [Operator Instructions] I now have pleasure handing over to Seco's Chief Executive Officer, Massimo Mauri. Please go ahead, Massimo.

[Massimo Mauri, executive]

Thank you. Thank you very much. Hi to all, and thank you for being here. I think the first half are -- this year was tough because we executed in a very difficult market environment. Despite it, we showed results that proven by fact, a solid execution into our business with a good organic growth in the range of 60% and in the range of 50%, the growth in a like-for-like basis.

The EBITDA grew in a very significant way up to over EUR 20 million and I would underline also a strong acceleration of the revenue in the second quarter of the year, EBITDA as a consequence. We still invest in our business. In fact, we invest around EUR 10 million in additional stock to support our future growth. This is due to the shortage component situation. Despite it, we started generating cash. We generated over EUR 3 million as a free cash flow in the second quarter of 2022 due to the condition where we operated. I think that is a significant achievement.

The gross profit margin is stable in the first half of the year. And again, this is affected by the shortage. And despite it, we was able to improve by 80 basis point quarter-by-quarter in the second quarter of this year.

The CLEA business grew better than expected, also is growing and ramping up faster than our internal estimation. This is great because proven in my mind that the shifting and the evolution of our business model from an hardware company to an hardware-software company is working. It's working extremely well. It was able to make around EUR 10 million in revenue, over 10% as a total revenue in the first half.

And we have also significant additional growth in the future coming from new customers that are choosing CLEA as an IoT infrastructure, IoT infrastructure.

The order backlog is up by 70% in same perimeter versus 1 year ago. It's now in the range of EUR 174 million, providing us all the visibility already on the entire year. This is the reason why I am in a position to fully confirm our guidance and also an increasing into visibility in the 2023 showing that the growth that we have in mind, still there are -- I was over the phone and in meeting with a lot of CEO of our customers during the last few weeks. And actually, they told to me the business is growing, continue to grow. They have a strong demand of product and solution, the digitalization trend continue. So all the KPIs that we have noted don't show to us any kind of slowdown in our business nowadays, but we will continue to monitor them very carefully on a weekly basis.

So entering more in details in the second quarter of the year, as you can see, with a comparison with the same quarter 1 year ago, while you can see a big improvement into all the major KPI. The growth of the sales is impressive in my mind. I think also -- and it's important to outline that we grew in the gross profit margin despite the fact that last year wasn't affected yet from the shortage. So was able to improve around 80 basis points, the gross profit margin due to mainly the contribution, the bigger contribution of the software business.

And also the EBITDA is jumping, returning up to the 22% in the second quarter with a good contribution also from the operative leverage. But what means basically for us, growing is making something that -- we did an analysis in a quarter-by-quarter. Looking here, you can see from the 2020 up to now the quarter-by-quarter revenue. And what you can see on the slide is that it was in the range of EUR 29 million on average in 2020. We were at EUR 36 million, roughly speaking, on average in the 2021. We are now around EUR 47 million in the first half of the 2022, and I would expect to see further growth in the second half of the year to achieve our target.

Bottom line, you can see a 20% quarter-by-quarter sales growth year per year, 35% of growth in EBITDA and EUR 3 million plus of cash generation in the last quarter. This is the snapshot of the results. I think it's important also to underline to you that we act in a difficult environment due to the shortage of the components. What it means for our business, it means that we performed 3x price increases versus customers in the last 1.5 years. We did over 20 re-design of product, [ high run ], which is equal approximately to 30% of our total [ high-run ] product. It means that we re-designed them, changing components, putting a lot of effort in finding out components on the supply chain we wasn't able to ship all the backlog. In fact, with end of the first half, we still have EUR 6 million of overdue backlog, meaning backlog that we should ship in the first semester, and we wasn't able to ship.

We invested EUR 10 million of additional inventories. And in this such environment, we was able to execute the launch of CLEA which is going extremely well. We was able to grow the business in a very significant way, and we was able to, in some way, defend our gross profit margin as a consequence to continue to significantly growth into EBITDA margin.

I would like -- this is a summary of the first half of the year in my mind. I would like to hand over to Lorenzo that can provide a deeper analysis of the major KPI of our first half performance.

[Lorenzo Mazzini, executive]

Thank you. Thank you, Max, and good afternoon to everybody. Well, financial highlights of Seco Group in the first half of 2022, as already Max mentioned, we recorded a real important growth of sales, 125%, respective to the same period of 2021. We increased the net sales in absolute term of EUR 52 million. But what is more important for us is the speed of organic growth and like-for-like growth that you can see is really, really important on both of the KPI.

This growth is, for sure, driven by really solid performance of Edge computing, but more important for us, the performance of CLEA business that reached close to EUR 10 million in the second half of 2022, showing great rollout of our solution across our customers.

Another point that I would like to mention regarding sales is, for sure, the integration that is proceeding really well across all our acquisition realized in the last half, in the last semester that contributes for sure, to reach these important results.

In terms of gross margin, obviously, the speed of growth has been similar to sales in terms of half-on-half growth. But what I would like to point out is the profitability at gross margin level, we are just 1 percentage point below the first half of 2021 but we are comparing really two different situations. Actually, the first half of 2021 was not affected by shortage. We reached these important results thanks to 2 tools. The first, Max already said this, our price increases that we need to do in order to rebate the increase on components on our customer. But more important is the impact of software that, as you know, as higher gross margin with -- so that counterbalance the profitability that we have on Edge. So good performance in terms of gross margin for sure.

In terms of EBITDA, we reached a good performance on this KPI also at this level, actually, we more than double first half of 2022, respect to the same period of 2021. What is really important is in relative terms, we are just 1 percentage point below the level of the H1 of 2022, but again, in a really different situation. So shortage with -- against a non shortage period. But most important for us is the acceleration of profitability, i.e., EBITDA level in Q2 2022. Actually, we closed the Q2 2022 with 22.5% of gross margin in respect to 20% in the first quarter of the year, showing that even in this difficult situation where there is shortage, Seco has been really good in navigating in this complex market scenario.

Regarding net income, we grew a lot also at the net income level, we more or less doubled the net fee income in the two periods that we are comparing. The growth is less than proportional with respect to sales because we have EUR 3.5 million higher in D&A, of which EUR 2 million comes from second order Europe, previous Garz & Fricke that, as you know, was not included in the consolidation perimeter in the first half of 2021. And the other item is, for sure, financial expenses that accounted for EUR 1.9 million in the first half of 2022 while the figures was close to 0 in the first half of 2021 because the company was cash positive before the acquisition of Garz & Fricke.

Well, let's go a little bit more deeper on our sales performance. Here again, strong performance of Edge computing that doubled these results compared to the first half of 2021. Great performance of CLEA that grows 10x respect to the same period of the year before. So a great launch of CLEA over the market. For what concern our performance in terms of sales breakdown by geographic area, we can see that we are growing at a really good speed more or less across all our geographic area showing that Seco as quite good diversification of sales across geography. The same comments we can do for sure regarding the end market, so the vertical on which we are distributing our products.

I would like to make a focus on the vending and distribution sector that is growing at a really, really important speed regarding strong performance on both, let's say, area, food vending business and tobacco vending business on which we are particularly strong in Germany, thanks to Seco Northern Europe.

Well, for what concern our performance in terms of our most important indicators in terms of profitability, so adjusted EBITDA. Again, 21% of margin in respect to 22% of the same period of 2022. So just 1 percentage point in decrease, but again, in a really different scenarios, shortage and non-shortage period. Again, what I would like to stress again here is the performance in Q2 of '22 where we increased EBITDA margin of 2.5 percentage point in unfortunately, a market in which the shortage is continuing.

For what concern, EBITDA here, we're showing you adjusted EBITDA that is for us the performance that measure actually the results of our business. We adjusted EBITDA for 2 factors: the actuarial value of the stock option plan reserved to the managers that accounts for EUR 1.5 million of the overall adjustment, then we have adjust of EUR 300,000 of M&A transaction cost related to the Camozzi Digital deal.

Well, a comment on our most important indicators in terms of balance sheet, actually, KPI, the net financial position. We closed the semester with a net financial position of EUR 122.6 million in an important improvement of EUR 3.2 million respect to the net financial position of the first quarter of 2022. This is a really great result actually in a context when the shortage is continuing and these results, the driver has been for sure our performance, our P&L performance for EUR 7.5 million and the good management of net working capital that was decreasing in the second quarter of the year by EUR 1.1 million.

Another point that I would like to highlight on these slides that is not reported here is -- sorry, it is reported between the -- on the right of the chart is our derivatives on our balance sheet. As you know, we did a full edge of our financing agreement that we've taken in order to finance Garz & Fricke. Due to the trend of the interest rate, and in particular, the 6 months, [indiscernible] these derivatives counts now for a really significant and positive amount of EUR 9.6 million. As usual, in accounting, this amount is not included in the net financial position and is not included either in our P&L because it's recording against equity. Thank you very much, and I pass the speech again to Max.

[Massimo Mauri, executive]

Thank you. Thank you, Lorenzo. And I think what's next after the soft first half, well, I see the trend of growth that we posted continuing. And I think also the key driver, which is the digitalization and the digital transformation still there is a driver that is a recession resilient because it's a secular trend that is basically changing almost all the process in the industrial business. And that as a factor, we still see very big new projects that are coming from new customers.

So in the digital signage, in the industrial field, in smart factoring, EV charging station, digital voting machine, consumption monitoring, many others, we still have a big demand of product and solution, and we are getting a lot of traction with a lot of bigger customers around the world that is providing us an increase in visibility also in the 2023. This is driven by the order backlog as we discussed before, but not only. This is also proven by the design win.

Design win and the order backlog are the 2 key indicators to look which could be the future trend of growth of the company. If you look at the backlog, well, the backlog is up 70% versus the previous year at the same perimeter. That is driven by a huge growth into all the regions with a special focus into EMEA, APAC and U.S. and is driven by existing customers and a lot of new customers that are starting now, entering into mass production, and they will be there for at least 5 years due to the life cycle of their product.

But it's very important to look and make an analysis on the design win. The design win of the Edge computing business are well above EUR 80 million as a total value. They are well spread into the 3 main region where we are acting and across many, many different kind of verticals. This is also showing a good contribution, which is in the range of 40%, 45% of new customers that are coming, starting working with Seco. And I am really happy to see customers in a vending machine, in industrial automation, in voting machine, in smart city transportation. So a lot of different customers with new solution, and most of them are including CLEA.

About CLEA, where we are. Well, now we have already over 100,000 licenses under contract, and we will progressively put them working on quarter-by-quarter increasing. And we have over 200,000 licenses close to be contract. I would assume that would be under contract, a good portion of them by the end of the next quarter. And we have a huge pipeline driven by over 50 new customers and over 0.5 million of devices in negotiation.

Of these new customers, I would like to mention a couple of them. One is a very, very big and international customers that is choosing CLEA as an IoT system for their solution. They have a lot of solution in the world of consumption of water, vending machine, all these such of product and another bigger -- this customer is a U.S.-based customers. And this -- and another big customer, which is a German customer has visited us last week, they are a leader in the industrial automation area, and they will start soon to work with Seco on a bigger CLEA project, and we are very proud to have this such high-quality customers on the back, also for our future.

On the industrial IoT CLEA side, which came from the Camozzi deal, well, we are finishing as planned, the departing of the first solution which is almost ready. It will be launched by end of September on the market. And the good news is we already got three big potential early adopters where we are in deep discussion with them in the test analysis. And we plan to launch also the CLEA smart factory version fully dedicated to the industrial automation side by early January 2023.

I was over the phone with Mr. Camozzi before the call, and our partnership is solid like rock, he is introducing as [indiscernible] the Seco to new customers. They need to have a hardware-software solution for their digital transformation. So Camozzi is not only a provider of solution that we acquired, but it's an important shareholder that is supporting the company long term speaking, and also customers and important customers. We are working on many projects for them and also an important business partner because it's providing us a lot of new customers.

Well, in Seco Northern Europe, we did a lot of job, actually accelerating the growth path of Seco Northern Europe, upto 22% of the net sales in the first half, but we want to further increase the growth and fix a lot of things inside the company to enable us to a long-term successful growth. This is the reason why a few months ago, I called a good friend of mine and a very outstanding manager in this market, which is Dirk Finstel, former Head of Advantech business in Europe. I know that Dirk is on the line, and I'm very happy to introduce to you to Dirk and to hand over to Dirk for a short presentation. Please, Dirk, go ahead.

[Unknown Executive]

Thank you, Max. Can you hear me okay?

[Massimo Mauri, executive]

Yes.

[Unknown Executive]

Yes. Once again, good afternoon, ladies and gentlemen. Yes. My name is Dirk Finstel, as you might have read. I really have more than 30 years experience and in global businesses in the tech industry, I have been Management Board member of Kontron, Adlink and also my latest assignment, the Managing Director of Advantech in Europe, but also did run in parallel, the largest business unit in Europe [Technical Difficulty] of total revenues.

From my perspective, I think, as Max has pointed out, we know each other for many, many years, more than 15 years. During my term in Kontron, I think we met [indiscernible] acquisition and why I'm joining Seco, I think, is a very easy question. I truly believe that the paradigm shift we see here in Europe that customers are looking for more European-centric supply chain and R&D and manufacturing capabilities, is a perfect point to really build a European [ Center ] and global player to really work on a full-scale end-to-end solution portfolio. As Max has pointed out, CLEA is a very unique software industrial IoT AI solution in this market. We have all the resources in-house and can really run like full-scale support to local customers out of own resources and keep the value chain inside of Seco.

On the other hand, we have seen a lot of difficulties of other companies matching European jurisdictions as data privacy and GDP all are extremely complex in the investor IoT environment. And as a European player, we are well positioned to gain, like this business driven by the digitization of business [indiscernible]

[Massimo Mauri, executive]

1

Thank you very much, Dirk. I noted that someone is working behind you, which is definitely good.

[Unknown Executive]

I'm at the airport, excuse me.

[Massimo Mauri, executive]

No problem at all. Thank you very much for taking the time to be -- if you can move to yourself, we will continue our discussion. Thanks again, Dirk. We will found another occasion where you will not be in an airport to have a call.

So what happened in August, this August -- because investing is a sort of game changer in my mind on the software side of our business. So there was a public announce where Google basically communicate to customers that it is going to dismiss all the IoT services by end of August 2023. Why this is so important? Because there are a lot of customers, bigger customers but now are looking for another supplier of IoT software solution. Well, many of them contacted Seco and the reason why is because we have a solution and we are an IoT company. So we are very focused in delivering this such as services long term speaking, which is not completely true after the Google decision for a company like Amazon or like Microsoft. So many customers, also a very big dimension are selecting a company like Seco as a partner for their IoT infrastructure, which is so important in the next couple of years because it will provide additional and unexpected point of growth for the CLEA business.

The other important point for the future is, for sure, the fact that we are ready to put in our pipeline, a lot of a solution dedicated to AI because we strongly believe AI will be another game changer, and we are in the very beginning of something where AI will basically change all the process, providing a lot of benefits to customers. What it means? It means that customers will be in a position to ask to have a lot of capacity in processing data. And customers have 2 options; one is to process this such of data in the cloud and the other one is to process the data into the Edge.

Well, a part of the real-time solution, if you need a real time, you need to stay on the Edge because going in the cloud, you will have latency. But cost-wise, is 5x better to stay on the Edge versus in acquiring the erstwhile computing on the cloud. This is the reason why Seco will present, starting from January 2023, a full set of new Edge performance solution, which will be add on. So something that will be insert in a normal product like an add-on for all our customers dedicated specifically to a high accelerator. That is important because we'll provide additional opportunity to build our business. And two, from this kind of business, we can easily have as add-on the CLEA solution.

Well, this is basically the end of the presentation. We can start now with the Q&A session.

[Operator]

Thank you, Massimo, Lorenzo and Dirk today for the update. [Operator Instructions] So our first question today comes from Anna Frontani from Berenberg.

[Anna Frontani, analyst]

I actually have 2 questions. So the first one, I appreciate that Max already touched on this. But if we could maybe get a little bit more color on the sustainability of the top line trajectory. What does it make you so confident that there will be -- not be a normalization on the top line beyond 2022? And also in which sector or category do you see the biggest opportunity? So that's the first question.

And the second one is actually on the outlook for the shortage of electronic components. In previous earnings call, you mentioned that we should start seeing the headwinds normalizing from Q3 of this year. Also thanks on the mitigating actions that you took. So I was just wondering, is this still the case? Or do you have any update on this?

[Massimo Mauri, executive]

Thank you, Anna. So let's start from your last question. About the supply chain, we start already to see improvement. Unfortunately, the improvement is slow, but we are continuing to observing them. We plan to be without a shortage somewhere in the beginning of the 2023. So we will see improvement during the third and the fourth quarter of the year, for sure but to observe a normal situation, I would suppose we should wait first for the second quarter of 2023 where we see a full normalization of the market without any kind of impact due to the shortage.

At that point, we will see the level of inventories starting going down and the level of cash generation, of course, improving a lot. Recovery into gross profit margin otherwise, so a lot of positive effect. If you can think that we missed the EUR 6 million that was already in the backlog in the first half, well, this is EUR 6 million basically means that potentially, we could close the book at EUR 100 million already in the first half with at least EUR 2.5 million more in EBITDA. So I think once the shortage will be over, we will see a lot of positive impact on our business.

Your first question is very simple to me because we have a lot of new customers in many, many different kind of sectors. I'd like to mention a few of them. One is very big in the smart city area where we are presenting EV charger, a new EV charger station made by us with Seco product inside both on the Edge computer and as a CLEA platform, in a very big conference next Monday in San Diego, together with Intel and another company. So this will be a big trend in the future 3, 4 years because it would expect to sell a lot this such a solution, there is a huge demand in EV charger station solution.

Voting machine is, for sure, another niche where we will grow a lot because we got a very big new customers that will start with a big program next year. And this is in the South Americas player, of course, is the #1 over there, but it's very well positioned around the entire world and the last, but not the least, we are getting a lot of traction into industrial field with the acquisition of 3 big new customers in Europe and 1 in China.

So we have a strong order backlog. The strong order intake, you can think that only in August, which is not a strong month at all. We was able to collect around 17 million of new orders only in August and September started extremely well. The majority of our customers will order for the entire 2023 because they are scared about the supply chain issue and they would like to put down all the orders for the entire 2023 and before the end of the year.

So I would assume that we will be, by the end of the year, having at least 80%, 90% of the total 2023 growth path in our book already. So I think the visibility on the 2023, this is one of the few positive consequence of the shortage, but is increasing.

[Operator]

Thank you, Anna, for your questions today. We now go to [ Titus Zarowski ] from Goldman Sachs.

[Unknown Analyst]

Congratulations on your results. I've got 2 questions. One on M&A. How should we think about your M&A strategy and other, any balance sheet limitations given your leverage? And my second question is on Olivetti Telecom Italia partnership, given that KKR is out of the picture now, how is the partnership progressing? Are orders coming through? And what sort of contribution should we expect this year and in 2023?

[Massimo Mauri, executive]

Well, starting from Olivetti Telecom Italia, you are right. The KKR is over, and we was able to return back with them and discuss business. Actually, we have with them, good program on the P&L, which is the European Program for Innovation and Digitalization. And we see also important programs that are coming from their network. So I would expect to see impact from the partnership, starting from 2023.

It's too early now to define exactly the dimension of the impact that will be more specific for sure on the next quarter call. But the work is back to normality and we're starting to see similar traction in this partnership finally.

On the M&A side, I would like to say that 2022 will be focused on executing our internal plan and execute and deliver what we are focused, to make or fully to beat the guidance or at least to achieve it. That's our plan to improve the cash flow generation. I think 2023, we will be in a very good position on balance sheet whilst at that point, we can have a space to manage an M&A, I have a target on my table which actually I am very interesting in a couple of them, one in the hardware space, another one in the software space, we should choose one or another. They are all the 2 in the U.S. and I will be focused on them. Later on we have good discussion in place. I don't want to accelerate too much the discussion right now. But I think in 2023, we will find a good windows to try to achieve another M&A deal to continue to mix an important organic growth with quality M&A acquisition. That's all.

[Operator]

Thank you, Titus, for your questions today. Currently, we have no further question -- sorry, my apologies, we have Andrea DeVita.

[Unknown Attendee]

Just 2 questions, business model-wise. One is related to -- I have seen the next steps. So you mentioned 2 very interesting things. You don't mention anymore, the App Store project. So I wonder whether the commodity deal with a more focus on the industrial IoT mix less compelling or postpone the project of having early next year a B2B app store. The second point is on business model again. I have seen the C3i, which is moving its revenue model from subscription to consumption. So I wonder whether you can ask somehow or at some point, move to this kind of model? Or if your pricing structure already fits, your different customers according to their consumption needs. So this is the question.

[Massimo Mauri, executive]

No. Thank you to you for your question. App Stores plan, we already communicated it. So I don't want to repeat myself, but excuse me, because maybe could generate some adaptor which is not the case. We still plan to launch the App Store, CLEA app store by end of Q1 2023. We are preparing everything. We actually already got commitments from a lot of customers to be part of this kind of stores. So -- and we definitely think that medium term speaking, this store will really create an ecosystem around CLEA, providing a lot of benefits to our software business.

On the business model, you are completely right, we will evolve our business model. This is -- it's too early now. This is something that is going to happen maybe in 2024, sometime in 2025. Let's see what -- when exactly will be the right time, but we will evolve. I don't want to shift the model. I don't want to mix the model, which is bit different from what C3i is making, but in some ways similar. So yes, that is the direction and the right formula, in my mind, is a mix and combination of the two. So a combination in between a monthly fee and fee based on consumption will be the case.

[Operator]

Thank you, Andrea, for your questions today. We now go to [ Marco Vitali ].

[Unknown Attendee]

I have a follow-up on the profitability side. We have noted that the part of the improvement, quarter-on-quarter improvement in profitability was slightly driven by volumes, but in the gross profit, I was wondering going forward...

[Operator]

Marco, I'm sorry to interrupt you. I'm not sure if you can speak into the microphone, we can't hear you very well.

[Unknown Attendee]

Can you hear me now?

[Operator]

I think a little bit better, yes.

[Unknown Attendee]

Okay. So I have a question on profitability. We have noted that the bulk of the quarter-on-quarter improvement in EBITDA margin was driven by volumes rather than profit. I was wondering to the account of your previous statements on the state-of-the-art of supply chain issues, should we expect any significant improvement of stock going forward over the second part of the year? Or should we expect volumes to continue to be the simple driver of margin expansion over the remainder of the year. This is first question.

And then the second one is a follow-up on CLEA. I was wondering -- we have noted a step-up in the quarter, base of CLEA asset distribution, EUR 6 million. I was just wondering, what is the percentage of the NRE off this figure? And if since you are in the upper 0quarter, it is something that you do project also going forward.

[Massimo Mauri, executive]

So about the second half, we will expect to see gross profit margin slightly better than the first half. So the key driver of the profitability will continue to be the revenue growth. On -- under the second question regarding CLEA, I think about EUR 6 million, we still have bigger contribution, I should say, around EUR 3.5 million, EUR 4 million from NRE because we are in the very beginning of something, we are not in the end. We're still working in defining and customizing a lot of algorithm for customers. And after it, the customers start to rolling out the solution. So we have now a couple of million of recurring revenue, under EUR 4 million versus EUR 4 million of NRE, meaning related to project.

The good news is, in the future, also the project will be finished, we will, for sure, have the benefits to transform this such of revenue into recurring revenue. And we are continuing to get new customers and new projects that are coming. So I would expect CLEA to continue to stay at least 10% of our total gross revenue by the end of the year.

[Operator]

Thank you, Marco, for your questions today. Currently, we have no further questions queued so we will just wait a few moments to give everyone the opportunity. Alternatively, if you do have any follow-up questions after the presentation today, please do reach out to the Seco team as they would be happy to answer any follow-up questions you may have.

So if there are no further questions, I will now hand back to Massimo Mauri for any final comments before bringing this presentation to a close. Please go ahead, Massimo.

[Massimo Mauri, executive]

Thank you to everyone on the line. Marco Parisi is always available, if you have any further questions or follow-up. And have a great continuation of today and see you soon. Bye-bye to all.

[Operator]

Thank you, everyone, for joining today. This presentation will now come to a close. Thank you.