Stevanato Group SpA

NYSE:STVN

Earnings Call Analysis

Stevanato Group's Margin Challenges and Future Prospects

In the second quarter of 2024, Stevanato Group reported a revenue increase of 2% to EUR 260 million, mainly driven by 9% growth in the Biopharmaceutical and Diagnostic Solutions segment. However, margins faced headwinds, with gross profit margin decreasing to 26% due to higher costs in the Engineering segment, vial destocking, and inefficiencies from new facilities. The company revised its 2024 guidance, now expecting revenue between EUR 1.09 billion and EUR 1.110 billion, with EBITDA ranging from EUR 264 million to EUR 272 million. Despite challenges, Stevanato remains optimistic about long-term growth, focusing on high-value solutions and operational efficiencies.

Overview of the Business Performance

The Stevanato Group experienced a mixed second quarter in 2024. While the company saw an increase in revenues, driven by a significant 9% growth in their Biopharmaceutical and Diagnostic Solutions (BDS) segment, the Engineering segment faced considerable challenges. The engineering delays led to higher project costs, affecting overall margins and necessitating a revision of the annual guidance.

Growth in BDS Segment

The Biopharmaceutical and Diagnostic Solutions (BDS) segment saw its revenues increase by 9%, reaching EUR 222.4 million. High-performance syringes played a crucial role in this growth, compensating for a notable 40% decrease in revenues related to vials. A remarkable highlight here is that high-value solutions within BDS grew by 23%, contributing EUR 103.4 million to the total revenue.

Challenges in the Engineering Segment

The Engineering segment revenue, on the other hand, declined by 26% to EUR 37.2 million. The segment struggled due to persistent delays and increased costs in delivering customized projects. The gross profit margin for the Engineering segment fell sharply to 10.3%, with the operating profit margin slipping to a mere 2.6%. These operational delays and additional costs have significantly impacted the segment's performance and the company's overall profitability.

Impact of Vial Destocking

A major headwind faced during the quarter was vial destocking. The destocking caused underutilization of vial lines, contributing to lower revenues and a diminished gross profit margin. The company remains optimistic that the vial market will gradually recover, with an anticipated pickup in vial orders starting late 2024.

Capital Expenditure and Cash Flow

The company continued its strategic investments, with capital expenditures totaling EUR 75.9 million in the second quarter. These investments are geared towards establishing new plants in the U.S. and Italy. Despite the high capital outlay, the company's liquidity remains solid with a cash balance of EUR 78.1 million and net debt of EUR 238.2 million. The negative free cash flow stood at EUR 46.1 million.

Guidance Update

As a result of the delays and higher costs in the Engineering segment, Stevanato revised its annual guidance. The company now expects fiscal 2024 revenue to range between EUR 1.09 billion and EUR 1.11 billion, with adjusted EBITDA ranging from EUR 264 million to EUR 272 million. Adjusted diluted EPS is projected between EUR 0.48 and EUR 0.50.

Future Outlook

Looking ahead, the company remains confident in its growth potential, particularly within the Biopharmaceutical and Diagnostic Solutions segment. High-value solutions are expected to drive future growth, alongside an anticipated recovery in the vial market. The focus will be on addressing the current headwinds and improving margins through better operational efficiencies and leveraging fixed assets.

Earnings Call Transcript 2024-Q2

[Operator]

Good afternoon. This is the Chorus Call conference operator. Welcome, and thank you for joining the Stevanato Group Second Quarter 2024 Earnings Call. As a reminder, all participants are in listen-only mode. After the presentation, there will be an opportunity to ask questions. [Operator Instructions]. At this time, I would like to turn the conference over to Ms. Lisa Miles, Senior Vice President, Investor Relations. Please go ahead, madam.

[Lisa Miles, executive]

Good morning, and thank you for joining us. With me today is Franco Stevanato, Executive Chairman and Chief Executive Officer; and Marco Dal Lago, Chief Financial Officer. This morning, you can find a presentation to accompany today's results on the Investor Relations page of our website, which can be found under the Financial Results tab. As a reminder, some statements being made today will be forward-looking in nature and are only predictions. Actual events and results may differ materially as a result of the risks we face, including those discussed in Item 3D entitled Risk Factors in the company's most recent annual report on Form 20-F filed with the SEC on March 7, 2024. Please read our safe harbor statement included in the front of the presentation and in today's press release.



The company does not assume any obligation to revise or update these forward-looking statements to reflect subsequent events or circumstances, except as required by law. Today's presentation may contain non-GAAP financial information. Management uses this information in its internal analyses of results and believes this information may be informative to investors, engaging the quality of our financial performance, identifying trends in our results, and providing meaningful period-to-period comparisons. For a reconciliation of the non-GAAP measures, please see the company's most recent earnings press release. And with that, I will now hand the call over to Franco Stevanato.

[Franco Stevanato, executive]

Thank you, Lisa, and thanks for joining us. Today, we will review our second quarter performance, provide an update on market dynamics and share some insights on the challenges and the ongoing initiatives to meet our objectives. For the second quarter, revenue was a little bit better than our expectation, driven by 9% growth in the BDS segment, but margins fell short of our forecast in the engineering segment, where delays led to higher costs on certain projects. We also incurred increased expenses related to the actions taken in the second quarter to address these delays. These factors combined are the main reason for the revision of our 2024 guidance.



As you know, the engineering segment has experienced significant growth, more than doubling its revenue over the last 4 years. We scaled our operations to support this large volume of work, but persistent delays in the supply of electronic components and the complexity of certain projects prevented us from delivery as planned. The challenges are mostly limited to our Denmark operation and are related to certain highly customized projects. Our #1 priority today is to advance this large volume of work in progress and bring these projects to completion. But this will take some time.



Moving to Slide 6. We are undergoing extensive efforts to optimize our engineering footprint, harmonize industrial processes and enhance our supply chain and logistics strategies. Let me give you a concrete example of these efforts. In Denmark, we consolidated activities of 2 different production sites into a single location so that the Danish team can focus on the advancement of our assembly and packaging technologies. At the same time, we're implementing a cross-site plan to better support our vision inspection teams in Denmark with our technical specialists in Italy. This will also increase the standardization of our technologies and processes across the engineering segment. While these initiatives include expenses that will impact our 2024 financial performance, they will help us optimize our operational structure, maximize efficiencies and secure the success of ongoing projects.



This is one of the primary areas of responsibility of Ugo Gay, our Chief Operating Officer, who joins Stevanato Group in March. Ugo brings over 20 years of experience in the industry, having held both commercial and operations leadership positions at organizations such as Diasorin. Long-term, we believe the demand landscape for engineering remains favorable. Not only is the industry moving to secure supply chains and manufacturing capacity for fast-growing biologics, but we also see an increasing shift to upgrade infrastructure to better align with the requirements under Annex One. In addition to improving our execution in the engineering segment, we are still navigating through the effects of vial destocking. We see positive signals in the market with orders starting to materialize in certain smaller markets such as Latin America.



In larger markets, we still expect a more gradual recovery. Our customers are sharing forecasts that point to improving demand, and we are beginning production planning. Accordingly, we are optimistic that vial orders will begin to pick up at the tail-end of 2024, starting with bulk vials. Moving to our capacity expansion projects on Slide 7. It is important to note that we are working through these challenges in the midst of a large demand-driven CapEx cycle. Last year, we successfully completed our Piombino Dese plant expansion, and we are continuing our multiyear ramp-up of our expansion projects in Fishers, Indiana and Latina, Italy. In Fishers, our validation activities are going as planned, and we are progressing through the first set of customer audits. During the quarter, we took delivery of our second and third syringe lines and installation and qualification activities are underway. Most importantly, we are on track to launch commercial production and generate our first commercial revenue from Fishers in the third quarter of 2024.



During the second quarter, we hosted 40 customers for the opening of the new plant in Latina to give them a first look at our new high-value solutions manufacturing facility. We expect to continue to expand our syringes production as part of our multi-year ramp up in Latina. We have 2 manufacturing plants at our Latina campus. As previously disclosed, the next phase in Latina is concentrated on the expansion of EZ-Fill cartridge capacity to support the transition from bulk to ready-to-use products for an anchor customer. Activities tied to this project will launch next year. The expansion is designed to harmonize operations between the 2 sites. This includes the installation of new bulk and easy field cartridge lines in the new plant and the upgrade of our ready operational lines in the original Latina plant.



This approach is part of our wider strategy to enhance efficiency and production capacity, reduce lead times and expand our offer of premium solutions. As expected, the ramp-up activities of our 2 new facilities are resulting in temporary inefficiencies on which Marco will elaborate further. With our teams focus on the execution in Latina and Fishers, we decided to further postpone any additional expansion in China for the coming 12 months. As a consequence, we're shifting some of this CapEx to Latina to accommodate a change in regional manufacturing preference for a large customer. Accordingly, we believe that we have sufficient capacity to support the demand in the region.



On Slide 8. In summary, we are confident that we can successfully navigate through the challenges in front of us, and we are squarely focused on improving our execution. The core fundamentals of our business have not changed. The end markets we serve are healthy and growing. Demand for our products remain strong. Our integrated solutions resonate with our customers, and we are operating in an environment with favorable secular tailwinds. We continue to see a durable profitable growth path in front of us, driven mainly by Biologics. In fact, in the first half of 2024, Biologics hit a record high of 35% of BDS revenues, which is creating strong demand, especially in high-value solutions. I will now hand the call over to Marco.

[Marco Dal Lago, executive]

Thanks, Franco. Before I begin, I want to clarify that all comparisons refer to the second quarter of 2023, unless otherwise specified. And in the second quarter, foreign currency was immaterial. So, all revenue comparisons exclude currency translation. Starting on Page 10. For the second quarter of 2024, revenue increased 2% to EUR 260 million. This was driven by a 9% growth in the Biopharmaceutical and Diagnostic Solutions segment, which offset the expected decline in the Engineering segment. Our product diversity helped expand our mix of high-value solutions, which grew 23% in the second quarter and represented approximately 40% of total revenue in the quarter. The increase in high-value solutions was favorable to gross profit margin. This offset lower revenue from EZ-fill vials, which adversely affected the mix within high-value solutions.



Gross profit margin was also tempered by 3 headwinds. First, the higher-than-anticipated cost in the Engineering segment had the biggest effect on gross profit margin in the second quarter. Second, the impact from vial destocking, causing the underutilization of our vial lines. And lastly, inefficiencies tied to the ramp-up phase of our new facilities. As a result of these temporary headwinds, gross profit margin decreased to 26%. It is important to point out that we believe that these headwinds are temporary and will gradually subside. In turn, we expect a step-up in margins. As we outlined during our Capital Markets Day, margin expansion is expected to be driven by the mix shift to high-value solutions, the benefit of scale and better leverage of our fixed assets and operational efficiencies. For the second quarter, lower gross profit led to a decline in operating profit margin to 10.8%. And on an adjusted basis, operating profit margin was 12.8%. For the second quarter of 2024, net profit totaled EUR 20.6 million, and diluted earnings per share were 0.08. On an adjusted basis, net profit was EUR 24.5 million, and adjusted diluted earnings per share were 0.09. Adjusted EBITDA was EUR 54 million, and adjusted EBITDA margin was 20.8%.



Moving to segment results on Page 11. For the second quarter of 2024, revenue from the BDS segment increased 9% to EUR 222.4 million, mostly driven by growth in high-performance syringes. The diversity in our product portfolio helped drive 9% growth despite a 40% decrease in revenue related to vials. Revenue from high-value solutions grew 23% to EUR 103.4 million in the second quarter, while revenue from other containment and delivery solutions decreased 1% to EUR 119 million. As expected, the increase in high-value solutions benefited gross profit margin, but segment margins continue to be unfavorably impacted by the ongoing effects of destocking as customer inventories continue to normalize and startup inefficiencies in Latin and Fishers.



As a reminder, these are natural inefficiencies that occurred during the early phases of operations. These inefficiencies reflect the under absorption of expenses as volumes, productivity and revenue progressively grow to reach the target levels. As these facilities mature, we believe that this impact will decrease and that margins will improve accordingly. As a result, in the second quarter of 2024, BDS segment gross profit margin was 27.7%. This represented 390 basis point decrease compared to the prior year. For the second quarter, operating profit margin for the BDS segment decreased to 14.5% from 19.8% in the same period last year. For the second quarter of 2024, revenue from the Engineering segment decreased 26% to EUR 37.2 million.



As Frank noted, delays have led to higher costs on certain complex and highly customized projects in process. As a result, gross profit margin decreased to 10.3% and operating profit margin declined to 2.6% for the second quarter. It's important to mention that we currently see strong continued interest in our innovative market-leading technologies. With the actions we have ongoing, we believe that we can drive the necessary improvements to bring this project to completion, improve the segment financial performance and return to a profitable growth trajectory. Please turn to the next slide for a review of balance sheet and cash flow items.



We continue to carefully manage trade working capital to support the growth of our business. As expected, our inventory levels increased in the quarter, mainly due to the establishment of baseline inventories in our new plants in U.S. and Italy, including products that are expected to be delivered to customers in the future quarters. This was partially offset by collections of trade receivables. We ended the second quarter with cash and cash equivalents of EUR 78.1 million and net debt of EUR 238.2 million, through a combination of our cash on hand, available credit lines, cash generated from operations, and our ability to assess additional financing. We believe that we have adequate liquidity to fund our strategic and operational priorities over the next 12 months. As expected, capital expenditures for the second quarter of 2024 totaled EUR 75.9 million, as our demand-driven investments continue to ramp. In the second quarter of 2024, net cash from operating activities totaled EUR 22.3 million.



During the second quarter, we received proceeds of EUR 3 million for the sale of a building in Denmark as part of our initiatives to optimize our footprint and gain operational efficiencies. Cash used in the purchase of property, plant and equipment and intangible assets was EUR 72.1 million. This resulted in negative free cash flow of EUR 46.1 million in the second quarter. Lastly, on Slide 13, we are updating guidance for fiscal 2024. Let me walk you through the changes. Starting with the Engineering segment, which is the main reason for the revision. We now estimate a revenue decrease of approximately 15% to 20% for fiscal 2024 compared with last year. Turning to the BDS segment. For fiscal 2024, we continue to anticipate mid-single-digit revenue growth compared with last year, and we remain comfortable with the current consensus revenue estimate of EUR 930 million for the segment.



So, when you add this all up for fiscal 2024, we now expect revenue in the range of EUR 1.09 billion to EUR 1.110 billion. Adjusted EBITDA in the range of EUR 264 million to EUR 272 million, and adjusted diluted EPS in the range of EUR 0.48 to 0.50. As we consider the future trajectory, our long-term growth construct remains unchanged. We believe we have the right ingredients in place to return to double-digit growth and expand margins as outlined at our Capital Markets Day. Looking to next year, in the BDS segment, we have positive momentum in high-value solutions, particularly in syringes, which is a favorable tailwind. On the other side, we currently anticipate that our growth may be tempered by the current headwinds. This includes the pace of recovery in bulk and EZ-fill vials, which is the largest factor, and the timing of the effect of the corrective actions we are taking for the Engineering segment.



We will continue to update you on our progress, but we will provide formal guidance in March. We remain confident in our strategy and in our long-term growth prospects going forward. Thank you. I will hand the call back to Franco.

[Franco Stevanato, executive]

Thank you, Marco. In closing, on Slide 15. We are maintaining focus on our long-term objectives, and we are confident in our strategic direction. Despite the headwinds, we are still delivering organic growth primarily in high-value solutions. We are investing in the right areas and meeting customer demand. In the near-term, we must deliver on our commitments and sharpen our focus on solid execution across our main priorities. This includes the ongoing expansion in Latina, our ramp-up activities in Fisher, and improving our project delivery and Engineering segment. The fundamentals of our business remain strong. We operate in a dynamic and growing market with favorable secular tailwinds. Demand is robust, and we have a portfolio of products that are ideally suited to meet the customer needs.



We believe that the business is well-positioned to capitalize on these trends, and we are determined to return to durable double-digit organic growth, expand margins and drive long-term shareholder value. Over the past few months, I had the opportunity to meet with many of our key stakeholders, including customers, employees and investors. As a CEO, I'm confident that we will achieve our long-term objectives. Operator, let's open it up for questions.

[Operator]

Thank you. This is the Chorus Call conference operator. We will now begin the question-and-answer session. [Operator Instructions]. The first question is from Jacob Johnson of Stephens. Please go ahead.

[Jacob Johnson, analyst]

Maybe just on the engineering business. This business grew rapidly in the past few years. We've heard about some weakness around capital equipment demand in the current environment. Do you think this is largely supply chain issues and within your control? Or is there any softening in demand that you're seeing for engineering equipment?

[Franco Stevanato, executive]

Thank you, Jacob, it's Franco speaking. So today, in order to put in context, the engineering division, we more than doubled our revenue in the last years, in particular, in the middle of the context of the pandemic and supply chain shortages. Today, we are behind schedule in some complex new projects more than what we have previously expected, and this is putting pressure on our performance on the business. Those temporary challenges are predominantly isolated to our Denmark operation on certain highly customized projects at the late stage of the development. And we are taking strong action to improve and recover situation. We are confident that we can successfully navigate through these temporary challenges in front of us in the next few quarters. And by the way, the portfolio of order in the engineering division is solid, is strong with our big customer, in particular in biologics.

[Jacob Johnson, analyst]

Got it. And then maybe, I guess, I'll ask one on Fishers. You guys talked about seeing commercial revenues in 3Q. Was this always what was kind of assumed in guidance? Or is this a slight benefit versus prior expectations? And I guess as we think about Fishers coming online in 3Q, should we think about those -- that initial contribution is being kind of modest?

[Franco Stevanato, executive]

Correct, Jacob. Validation activity progress as planned. So practically, we are on track to launch commercial production in the third quarter of 2024, and we expect to generate commercial revenue also in the Q3 of this year. Today, the big attention, a big focus on all our organization is to perform validation audit with all our U.S.-based customers.

[Marco Dal Lago, executive]

On the guidance, the revenue are invested in our guidance we provided.

[Operator]

The next question is from Paul Knight of KeyBanc.

[Paul Knight, analyst]

Frank, do you expect engineering system to grow in 2025? I mean, obviously, this is a reorg year.

[Marco Dal Lago, executive]

We provided some colors. Marco speaking. Sorry, Paul. We provided some color about 2025 about our preliminary folks next year. It's a little bit early to provide guidance. We will provide guidance as usual after Q4 earnings call. What we can tell you today, again, is that we see strong demand in syringes, in high-value Nexa and Alba, suitable for biologics, and this is a good tailwind. On the other side, we see some uncertainty about the timing of recovery of the vials, and the timing of the effect of the actions we are taking for engineering. As Franco mentioned before, we see strong demand for our technology in engineering. Unfortunately, we are struggling to complete the testing on some highly-customized project, and this is impairing a little bit our ability to bring on new contracts and advance on the projects. So, this is a little bit early to talk about specifically engineering for 2025.

[Franco Stevanato, executive]

Paul, if I can further give you some more elements. This complex line that Marco is referring are new technology that our bigger customers was, in particular, on assembling technology and inspection, where the average lead time is up to 2024 months. So, we have faced now some challenges at the later stage of acceptance test at the end of May and June. Also, it's important to specify that these projects are the first of a kind of machinery for our customers that are part of our long-term multiple line equipment. So, what do you see? If one side you see a big increase in demand on syringes, on cartridges ready to field automatically, our same customers are asking to also to deliver new high sophisticated line for assembly and for inspection. These are the first line, and our organization Demark is facing some temporary challenge. But under the new leadership of Ugo Gay, they already put in place all the actions in order to recover and to be back on track in the next few quarters.

[Paul Knight, analyst]

And then second question is Latina, which seems to -- I know you had a lot of another opening down there recently. What was -- the transfer of expansion was from what? Could you just give us an update on Latina, it seems to be a lot bigger expansion that has been planned 2 years ago.

[Franco Stevanato, executive]

Yes, Paul. Practically, Latina was -- we have decided it became the second big hub in Europe in order to serve our customers for our Nexa syringes. And this is why, by the way, if you compare Latina with Fisher, we are 2, 3 quarters ahead today. We have already -- many customers, we are generating commercial revenue. Today, one of our major anchor customers have decided to increase capacity in Latina for this new technology, for this cartridge straight to fill. You know that we have market leader on cartridges, both on cartridges bulk, also in technology. Today, we see there is more and more demand from this cartridge to fill from all the bio customers. In particular, these big customers want to -- we have a big capacity in Europe, in particular in the site of Latin, and this is a reason for this further expansion.

[Operator]

The next question is from Matt Larew of William Blair.

[Matthew Larew, analyst]

Last quarter, when you took down guidance for destocking, you communicated that you were trying to be conservative there. And you did beat, I think, our expectations for the second quarter on BDS, and it sounds like you're maintaining that outlook largely for the year. Now that you've encountered issues in engineering, are you trying to take a similar approach now in terms of the way that you are communicating those challenges to investors?

[Marco Dal Lago, executive]

Yes, you mentioned they are 2 very different reasons for adjusting the guidance. We recognized we had to change the guidance twice in a year. But again, for 2 very different reasons. Vial destocking is affecting all the industry. And at the beginning of the year, we didn't detect the drop down for about 40% year-over-year in our vial demand. And this is the specific reason why we had to review the guidance in Q1. Engineering is different situation, whereas Franco explained, we more than doubled the size of the business. We are taking some ugly customized projects. As a matter of fact, we are delaying some acceptance from customers because they are really specific projects and customized one. Matter of fact, we are spending more time to test the equipment. We had to add more resources in May, June to complete the staff. As a matter of fact, we are spending more time with more people on those projects, and this is affecting our profitability in the second quarter. At the same time, we took a conservative approach also in bringing in new customized projects, and this is the main reason why we are reviewing our guidance for fiscal 2024.

[Franco Stevanato, executive]

Matt, if I can give some more color to the answer of Marco. So, from our perspective, if you're going to isolate these temporary challenges, we will expect that the facts from vial destocking will be behind us. Also, like Marco mentioned in his remarks, we will gain leverage from the scale of our new operation in Latin and Fisher, and engineering segment should return to profitable growth in the next quarter. So, we are excited that this will give us a good confidence in the future.

[Lisa Miles, executive]

Matt, one clarification. We don't expect the engineering segment to return to profitable growth next quarter. It will be in the coming quarters.

[Matthew Larew, analyst]

Okay. And then just on CapEx. Took up the high end of the range there, I think to EUR 335 million. This obviously is expected to be another big year of CapEx following last year. But just given, I think, Fisher's validation maybe a little bit of at least street expectations. Could you just provide us with sort of an outlook on CapEx over the next several quarters here as you're starting to continue to fill out those facilities with lines?

[Marco Dal Lago, executive]

Yes, we are in line with our CapEx plan for the year. So, we reiterate our guidance for the year between EUR 300 million to EUR 335 million. So, everything is going according to the plan, and we reiterate our guidance. It means that second half of the year will be slightly below first half of the year with respect to cash out, but we are not talking about big differences compared to the first half of the year.

[Operator]

Next question is from Michael Riskin of Bank of America.

[John Kim, analyst]

Hello. Good afternoon. This is John Kim on for Michael. Great to hear of the orders coming in, in Latin America. And elsewhere, you talked about the customers talking about the production planning coming in. Is that across the board, as in all regions? And then what sort of products can we expect to come after bulk vials? And if there's a time line expectation for that destocking to happen, I would appreciate those comments.

[Franco Stevanato, executive]

So, thank you for your question. We are still navigating through the effects of the market vial destocking. We see today positive sign, like I mentioned to you in the market with all the starting to materialize in certain smaller markets such Latin America. In larger markets, we still expect a more gradual recovery, but our customers are sharing forecast point to improving demand and they are beginning production planning. This reinforces our confidence that vial orders will begin to pick up at the tail-end of 2024 starting from bulk vials. So, we are starting to see all overall positive sign from the market.

[John Kim, analyst]

Great. And in the guide update today, you laid out for the fiscal '24 that high-value solutions, now you expect that to take over -- take up 36% to 39% of the total sales, and that's making progress towards your 2027 target. But 2Q was already 40%. So, I'm wondering if that fiscal '24 target could even be higher?

[Marco Dal Lago, executive]

This is our guidance today about 2024. So, we reiterate in absolute value, the revenue from high-value solutions. We can see strong demand, as mentioned in high-value syringes. Compared to initial guidance, as mentioned, we have seen pronounced reduction in sterile vials, but overall, we confirm our guidance in total numbers. Obviously, going down engineering, we are consequently increased the percentage of total revenue. About the midterm view, we feel confident to get to 40% to 45% by 2027 with the growth in the coming years or so, as mentioned by Franco, we see temporary the bias destocking. So, we expect to start growing in vials both in bulk and sterile. We expect other product lines to ramp-up and not only value products.

[Operator]

The next question is from Patrick Donnelly of Citi.

[Patrick Donnelly, analyst]

I'm just asking the 2 upfront. Franco, maybe just quickly on the destocking piece. Can you just talk about visibility and what you're hearing from customers, just expectations on that front as we work our way through the year? And then second, just on the China facility, how to think about the timing and the commitment to that region would be helpful.

[Lisa Miles, executive]

So just to clarify your question, Patrick, it was a little hard to hear you. Your first question was on destocking and asking about visibility into our customer forecast? And the second question related to China and the timing on China. Is that correct?

[Patrick Donnelly, analyst]

Yes.

[Franco Stevanato, executive]

So, regarding destocking, just to give some numbers, the bulk vial market is a market that has a size around EUR 13 billion vials per year consumption. This a number approximately pre-pandemic. We are starting to face some issue with the destocking in 2023, also this year. So practically, we are entering the second year where we are facing this destocking issue. Today, what do we see that -- practically all our customers, international customers, regional customers, they build a huge inventory for COVID, vials for all the other therapeutic drugs. Now our customers are moving this situation of destocking. We are starting, like I mentioned before, to see, particularly in smaller customers where they have more lean supply chain reactivation of order. What is more related to international customers, they are starting to -- they are still soft in the demand on 2024, but starting to discuss forecast for 2025. So, this is reason why we're starting to see an overall positive sign on the vial market.



Regarding China, by the way, China, Asia-Pacific for Stevanato is still we remain a strategic market because we see a very big opportunity in particular in biosimilars in the next year to come. It's also true that in Stevanato Group, we are very flexible in terms of follow the demand requested by our customers. Also, where our customer is addressing the request, our model to make investments are modular. So particularly one of our major anchor customer, they have just reallocated their needs from Asia. They've asked us to further enforce our capacity into the plants of Latina. This is why we have partially reallocated our investment, we are increasing capacity in Italy. Also, because what we -- the capacity that we have in China today is sufficient to serve and satisfy the market.

[Operator]

The next question is from David Windley of Jefferies.

[David Windley, analyst]

Hopefully, you can hear me. I wanted to ask; I'm trying to understand the guidance a little bit from some scratch math I've done here. It looks like you need about 27% EBITDA margins in the second half from 21 in the first half, and then incremental margins of something in the mid-50s percentage to kind of hit this new midpoint of the range. And clearly, with the costs that you've incurred, the delays in projects or the complexity of some of these projects, your margins have been negatively affected. I mean, effectively, your incremental margins have been negative. Just wanted to understand how you see the progression from first half to second half? Are you taking cost out of the business? It sounds like you're actually investing into. But again, wondering if you're taking cost out of the business that would help to support those high incremental margins to get to the much higher EBITDA targets in the second half?

[Marco Dal Lago, executive]

Thanks for the question, David. We see a path similar to last year with respect of growth, sequential growing between Q2, Q3 and Q4. So basically, we need to repeat what we have done last year. All overall, we are, let's say, we took the hit of the higher cost in engineering in second quarter. We expect to grow particularly with a good mix in value products, especially syringes, and we can leverage the ramp-up of Latina. Will give you more comfort on this in the first half of the year, the ramp-up in Fishers and Latina was painful from the P&L perspective because we have all the structure in place. We have quality in place, information technology, controlling, and logistic planning. And we generated a small amount of revenue in first half of the year. Differently for the second part of the year, we plan to ramp-up significantly in Latina, start generating some commercial revenue in future. So, this is one of the driver of the growth. And everything is embedded in our guidance, basically to repeat what we have been able to do last year.

[Franco Stevanato, executive]

David, I can complement the answer of Marco. Also, we are making a lot of attention also under the leadership of Ugo Gay, the new Chief Operating Officer, to make a lot of attention in making a lot of improvement in efficiency internally in order to really to try to maximize and bring the full plant in Stevanato Group, the full function. It will become extremely efficient. So, this is a negative side that we are starting to put a lot of attention. By the way, it will be an ongoing activity also for the next year.

[David Windley, analyst]

Got it. Maybe a slight twist on the question. Would you be willing to give us some sense of split. I don't think you did that in the updated guidance. I'm sorry if I missed it, but the sense of split of revenue contribution for the year between BDS and engineering?

[Marco Dal Lago, executive]

Yes. Let's say, are in line with current consensus with respect of BDS, around EUR 930 million. That means mid-single-digit growth in BDS. In engineering, we mentioned that we expect a decline between 15% to 20% compared to last year.

[David Windley, analyst]

Okay. And then if I could ask one last one that's more long-term. And thinking about your longer-term margin targets and the change, so we've kind of come to understand that high-value vials are quite profitable for you. I think you said vials, maybe overall were down 40%. Is the achievement of your longer-term targets dependent on vials recovering the same percentage of your business that they were, say, a year or 2 years ago?

[Franco Stevanato, executive]

David, today, once we will scale up our 2 new greenfield plants, in particular Latin and Fisher, we are confident that we continue really to match our adjusted EBITDA target that we shared on 27, about 30% and to stay in the high-value range of high-value solution product between 40% to 45%. This is where we target. Today, we are growing a lot on syringe Nexa. We have a good pipeline on our Alba technology. We have a lot of mid, small program on syringes with bypass. Also, we have a big program on cartridge to fill with some anchor customer, but we see more and more trend on the industry that cartridges will turn into ready-to-fill. So overall, we are confident that on the number that we shared with you.

[Marco Dal Lago, executive]

In the medium-term, we see disappear in the vial destocking. We are taking action to be back on track for the engineering. And compared to the Capital Markets Day, we see very strong demand in syringes. Franco was saying the conversion, the acceleration of the conversion of cartridges to sterile. So, we are offsetting some risk also in EZ-fill, but we are confident to drive the growth in the same direction.

[Operator]

The next question is from Larry Solow of CJS Securities.

[Lawrence Solow, analyst]

Great. A lot of my questions been asked. I guess just a follow-up on David's question on the vial. So, it does feel like you've seen some positive signs and maybe you were hopeful percent of those positive signs that we're starting to see. But it also feels like you're not maybe as confident or certain that we get a recovery in '25, maybe some recovery. But is it fair to say that maybe you're a little bit less confident or you just don't want to necessarily stick your neck out and make a guide for '25 yet? But on the same respect, though, it doesn't feel like your confidence has diminished at all in the overall potential of vials and that we will get back to levels you thought you would get to, maybe just a little bit further out. Is that kind of fair to sum that up that way?

[Marco Dal Lago, executive]

Long-term, We are confident the vial market is there. It's a necessary format for the industry. For 2025, the uncertainty about the timing of the inflation point because we are monitoring it, but it's a little bit early to say that January 2 will be at the level we expect.

[Franco Stevanato, executive]

Today, we have a constant dialogue with our customers because we are involved with our customers, not only vial, many programs we can move to syringes on cartridge BDS program. So today, we have an intense discussion on their supply chain level because also it's one of their main concern to reduce -- to normalize the level of stock. So, all overall, the trend is positive. We see positive sign in small customers, like I mentioned before that they are going back to normalized. The bigger customer, more when they have complex supply chain, they are multiple sites. This is something that we are more prudent. But there are a constant intimate discussion that we have practically every week with our customer today.

[Lawrence Solow, analyst]

And you mentioned some stuff on the -- a little up there on the cartridge market. Can you just give us any more color? I know manufacturing capability capacity have been built out a little bit by telling your customers last year. But are we seeing some destocking there too? It's a smaller market, so probably not. But could you just give us anything there, any update there?

[Lisa Miles, executive]

Larry, just to clarify the question, you're asking if we're also seeing destocking effects in cartridges?

[Lawrence Solow, analyst]

Or just any not destocking, just any update qualitatively in terms of --

[Franco Stevanato, executive]

We have not signed for changement in the demand with our customers. Most we see a strong demand on Nexa syringes, and we see an increase in demand of cartridge to fill. Cartridge EZ-fill were put in place, high-speed line that this is something that will generate more big revenue in the later stage because now our engineering individual is in a complex phase to build the technology for internal users. So, all overall, the demand is robust and in biologics is really strong in this moment.

[Lawrence Solow, analyst]

If I can make just a quick last question just on cash flow expectations. I think your cash balance was about EUR 75 million currently. It looks like I think -- can you just give us any thoughts on that in light of your CapEx plans? And will you need to raise any more, maybe any more financing this year? Any thoughts on that?

[Marco Dal Lago, executive]

So as mentioned, we have EUR 78 million of cash on hand. We have availability on credit lines, and we have positive free cash flow from -- cash flow from operations. So, we believe we are in the position to finance the growth at least for the next 12 months. And then looking ahead, we are still working on the plan for 2025. We are working on the budget to see a detailed plan for CapEx in '25. We still have a balance sheet with a small leverage, so we can leverage the opportunity to further invest in high-value products, obviously provided the internal rate of return is higher than our cost of capital.

[Operator]

The next question is from Dan Leonard of UBS.

[Daniel Leonard, analyst]

You made a comment that you're seeing an increasing shift to upgrade infrastructure to better align with Annex One requirements. Could you elaborate a bit more on that?

[Franco Stevanato, executive]

Yes. Practically, Annex One is a new recommendation that practically all overall is asking all the pharmaceutical industry to try to put in place some process that avoid any type of risk to put in danger the sterility of their product. So practically, which is the answer of Stevanato Group on this. Our EZ-fill configuration because it's going to be served in a no glass-to-glass configuration to our customer is happy really to avoid any type of generation of particle. Can be particle from glass, the lamination, also a particle that came during the washing, sterilization and heating program. So, this is the reason why we think that in the medium-term, the adoption of EZ-fill vials can help stem at in order to boost our revenue. On the top of this, if you move into our engineering segment is going to require more sophisticated inspection in line with a particular artificial intelligence that can further detect and improve the process of the pharma company. So overall, our next one in the medium-term, we think that will be favorable for Stevanato Group.

[Daniel Leonard, analyst]

Sure. And then as a follow-up, you mentioned that some of the CapEx shift from China to Latina was the result of a regional capacity preference change from an anchor customer. Could you discuss that a bit more? Is that due to concerns from that customer about bio-secure or anything specific you could point to?

[Franco Stevanato, executive]

I'm sorry if we don't have the internal detail from the customer, we know that usually our global customer, they want to secure a global footprint, this is most probably have decided to make some modification from one region to another one, but we don't have more elements in our hand.

[Operator]

The next question is from Curtis Moiles of BNP Paribas.

[Curtis Moiles, analyst]

First one, I just wanted to come back on the gross margin for the Engineering segment. I think I heard you say that you took kind of the biggest impact of the higher cost in Q2. Does that mean that in the second half of the year, we should see that gross margin bounce back to a more normalized level? Or what are you expecting there?

[Marco Dal Lago, executive]

Back a sequential improvement for the projects in engineering. We took the 18 second quarter on those big projects. Nevertheless, we expect still some quarters before going back to the normal profitability in engineering. We still have to navigate and complete the project, and satisfy our customers. And to do that, we need to put more effort and more people on the field in order to satisfy the customers.

[Franco Stevanato, executive]

Today, if I can also give some operational clarification under the leadership of Ugo Gay, the new Chief Operating Officer, and not only Ugo Gay, Rafael Pazzi that most of you, you met in the past event. We are really -- well back and they are building a clear program in order really to review all our footprint to optimize all our factory, even more to prepare the division for the next future growth with our customers. So, these are all the actions that we have put in place. There is a clear governance, in particular, starting from Denmark, and we count to have the first results in the next few quarters in front of us.

[Curtis Moiles, analyst]

Okay. That's helpful. And then just second question, again, you were talking about earlier how you were postponing the expansion in China and shifting over to Latina, I think. Does that kind of indicate to us that you're going to come in at the lower end of the full year CapEx range of EUR 300 million to EUR 335 million? Or is nothing really changing there?

[Marco Dal Lago, executive]

It's not changing the guidance for CapEx, we expect between EUR 300 million to EUR 335 million is not making a big difference in 2024. It's not an impact we will be considered for 2025 guidance.

[Franco Stevanato, executive]

If I can say maybe if there is no more question, some final word. Today, all the organization is squarely focused to face these temporary challenges. But also in the meantime, also, we are excited in the company because we are also working for the future. So, there is a high concentration of the motivation in the company to deliver, in particular with these new greenfield plants. This amazing program that we have around cartridge EZ-fill. Today, all the organization no matter if it is in Europe, United States, this is a big goal to deliver the long-term agreement business plan that we have the commitment with our customer. This is the only thing that we'll try to do every day.

[Operator]

[Operator Instructions]. The next question is a follow-up from Paul Knight of KeyBanc.

[Paul Knight, analyst]

On the third-party intercompany line item, what's in that? It seems to have obviously been huge as well. Is that internal supply of inspection systems for yourself? What is that exactly?

[Marco Dal Lago, executive]

Paul, we have there the glass forming machines that our Engineering segment is providing to Fishers and Latina to expand our capacity.

[Paul Knight, analyst]

Okay. Completely makes sense. Thank you.

[Operator]

That was the last question. Ladies and gentlemen, thank you for joining. The conference is now over. You may disconnect your telephones. Thank you.