Detection Technology Oyj

OMXH:DETEC

Earnings Call Transcript 2023-Q4

[Hannu Martola, executive]

Good afternoon, and welcome to Detection Technologies Fourth Quarter Results announcing. My name is Hannu Martola. I'm the President and CEO. I'm pleased to be informing you what took place in the fourth quarter and '23. In a nutshell, it was a tough year. A lot of changes externally, and also, internally at DT, but it ended really well. So, fourth quarter, we made record sales, EUR 31.3 million and reached a profitability of 14.8% EBITDA, which is at our target level. The growth was 11%, which is slightly above the midterm target of at least 10% growth.

When we look closer than what's in the sales, both industrial and medical sales grew single digit. Industrial sales actually still suffered a little bit on our, if I call, DT legacy business of the, let's say, slow times. But thanks also to DTS, we got some new sales. And overall, we grew a nice 7%, especially TFT flat panels were contributing to growth, but also automotive sector in larger. So we are actually, for example, we are delivering detectors for battery inspection as well as heavy tire inspection, and that contributed to the growth.

Medical sales was 4% growth. Sort of medical, the sales was what we expected. I mean, we had a heavy negative growth in third quarter because of the China anti-corruption campaign. That campaign continues, but fourth quarter was a bit of exception because 90% of the China health care spending is public. And in these public systems, they have annual budgets that they have to use. Otherwise, they will not be supported for the next year. And this had an effect on the China medical sales. And as total, we grew despite the reminder that we see, that most probably the first half of ‘24 will be a bit tough still on the anti-corruption side.

Security sales grew fantastic, 21%. The growth continued, especially in all sectors outside China in the aviation. One thing to note is that we're very pleased with our sort of progress in India. Actually, India started to contribute already to the security sales, and we look forward on a very long-term nice growth, not only in security, but also in other areas of X-ray digital detector business. I must note that the focus and efficiency program we started in September, actually and, in August, close to September, that helped to get the fixed cost into control. And thanks to the nice sales growth plus the more sort of downsized fixed cost base, we were able to yield out a nice EBITDA.

Net sales by quarter. These are the last 4-year sales, quarterly sales, clearly up, the best result so far. And then, when we look closer into the profitability, we clearly see that the DT business model scales nicely when we get the volume up, and we're able to reach the targeted 15% level.

Then looking closer on the business unit split. IBU reached EUR 5 million sales, MBU 13.1 million and SBU 13.2%. By the way, SBU for long was bigger than MBU and the changes to annual sales changes with 21% SBU, 4% roughly MBU and IBU 7%. And now SPU and IBU are about 60% of our sales and MBU about 40%.

Then on the sales by region. Americas, really high growth, especially driven by security sales to U.S. Asia Pacific 12.6%. That is a little bit helped also by India, as I explained. And Europe, Middle East, Africa, a decline of roughly 19%. And I must explain that this is mostly also a result of some one-time items on the fourth quarter of ‘23 -- sorry, fourth quarter on '22 as a comparable quarter, we had exceptionally high growth for SBU fourth quarter 2022 due to also some consignment stock that we're selling to customers, and so on. So this is not giving the full tooth over a longer term. We expect coming time growth in all these markets.

On full year EUR 103.8 million, EUR 9.7 million EBITDA, representing 9.3% of our revenue, excluding the NRI. And as a reminder, we had for third quarter, we had some NRI relating to the one-time cost for this fixed -- this focus and efficiency program.

Sales by business units, all these units grew on an annual scale, IBU flat, flattish. And like I said, I mean, IBU, legacy IBU would have been negative, but thanks to DTS for the second half that helped there. MBU flattish. It was a good start for first half, but then the anti-corruption campaign came, and SBU nice growth through the full year.

By region, again, Americas is a nice 60% growth, thanks to security sales in U.S., Asia Pacific flattish. Without India, this would be, by the way, a bit negative. And Europe, Middle East, Africa, about flat 0%.

Then looking more closer into the finances, if I pick some numbers here, one item is relating to overall R&D, I mean full ‘ 23 were about 11.3%. That’s sort of the level of 10% to 11% that we need to be investing, which are then recognize the cost, but we need to be investing into our sort of R&D.

Cash flow was positive, not to the level that we, let's say, normally could have been doing. There was some because of the -- especially the medical business, there are very long lead time items for quite expensive like photodiode [indiscernible] wafers and so on. And we have to order those based on forecast and when the forecasts didn’t realize because of the hit for the second half, that resulted in a bit higher inventory, what we would have otherwise had another reason for cash flow, so is this a very heavy account receivable. Thanks for especially December sales was really high, and that affected our net working capital.

On the investment side, just to note that if we look ’22, I mean, we did really -- I mean, just some maintenance investments. So the CapEx was low, EUR 1.6 million. Now we see the fourth quarter a bit higher, EUR 1.1 million. That's an outcome of one fairly expensive production equipment and also the investments for this new Oulu facility. So this 1.1 billion is a bit high side on to our normalized sort of outlook for investments. Then relating to earnings per share, just to note that if we look on fiscal year '23, earnings per share is EUR 0.38 compared to the fiscal year '22, EUR 0.35. The change is actually smaller than what we see in the nice growth in the EBITDA profitability.

There are 2 things affecting this EPS, one-time things related to last year. One is the interest cost. So the interest costs were high because of the currency exchange rates, we actually -- we don't sort of -- the net cost for our loans is about 0. -- Obvious we have income, and we have -- then we pay a lot for the working capital loans interest, but the net is 0, but then all the accounts receivable as well as our sort of balances in our accounts -- bank accounts, at the year-end is then translated into euros. And there, we have some sort of changes. It was positive on '22. It was negative on ’23. And long term, it will be less. We don't need -- and we don't hedge because we don't see a need for that. We are nicely -- our sales and purchases are sort of balancing each other out, but these kinds of balance sheet items then are sort of then floating whatever the currency exchange rates are.

Another topic here is the taxes. We had extraordinary high taxes for ‘23due to some one-time items. I think the tax rate was even close to 25%. Our normalized tax rate should be somewhere close to 20%. I mean China, we are paying 15%. U.S. is even 29%. We had high, nice profits in U.S., especially fourth quarter. So that affects and some other one-time items that then will be sort of, let's say, balancing out over longer -- sort of longer midterm.

On strategy highlights, 2 topics to note. One is this Oulu facility. Actually, team moved in yesterday. So they are in a brand-new office. Production is starting now in February and early March. And then we have a nice, good facility on also manufacturing the products that we are selling, for example, in U.S., and we are getting some savings from European origin based reasons. Then the Haobo imaging, which we call DTS. This is now -- is fully integrated to the system. We are very pleased with what we have gotten. And we've understood also based on employee survey that also DTS people are pleased with what's going on, and we have a joint nice future together. This is one of our really strategic objectives, is to get this TFT business, conquer the world with our sort of production offerings.

Other events we received as a sign of our super high world-class quality and lean activities in our factories in Beijing and Wuxi. We got for Beijing factory, an excellent supplier award of one major health care company. We also -- we were able to recertify as a High and New Technology Enterprise in China, meaning that we -- our tax rate is 15% for the next 3 years, not 25% that it would be otherwise. And then we also recognize that as one of the top 10 companies in Beijing area out of the 884 largest sort of companies in the Beijing development area for our sort of activities in health and safety and developing the facility further. And we are continuing to work with UNICEF and Alstrom Capital Impact on making the world better place for children.

On sales expectation, business unit wise, what we see is that nice growth for industrial for first quarter and second half -- first half from medical actually to decrease due to this anticorruption, for first quarter and first half. And then security, as well as industrial security, should see nice double-digit growth in first quarter and first half. And as a net, our official guidance is the total net sales is about flat for first quarter and first half on beginning of this year. And then we foresee that things will be getting better for the second half.

And here, as the word guidance, we expect year-on-year total net sales to remain stable in first quarter and first half of 2024. The market growth numbers, we hold them the same, but I mean there's so much volatility and so on that, I mean, it will be then in the history books, what the growths were then when you look behind later on. And there's a lot of issues going on as we all are sadly aware of in the world, so that we have to be very, very fast in our sort of reactions, have good situational awareness, fast decision-making and then navigating the company further for the benefit of our owners, and stakeholders, and employees and so on.

On earnings per share and payout. So the Board will be proposing and is proposing to the Annual General Meeting a dividend of 61%. So on the higher end of the 40% to 60% policy, which would mean a EUR 0.23 dividend per share -- and the financial targets remain, midterm annual sales growth, at least 10%. Operating margin, EBITDA of 15% and then dividend, which is then the returns on net profits, 30% to 60%. Thank you. I'm very pleased to answer any questions. So Matti, please.

[Matti Riikonen, analyst]

Matti Riikonen from Carnegie. A couple of questions. I'll take them one by one. First of all, in the text, you write about 2024 that for the full year, you would be in your target growth, which would be roughly 10% or more. Now you're guiding flat first half, so the second half needs to be very good. What is this idea based on? What kind of security, or kind of confidence, do you have that you can actually meet the second half? The forecasting is difficult in your business, as we have seen.

[Hannu Martola, executive]

Thanks. The confidence is the market knowledge, and being tough, going out there to capture the business. The answer, shortly, is that we expect, as everybody else in the market, that this China anticorruption will not continue forever. We should see a fairly nice growth through the year for our Security and Industrial business, expect double digit for both. And then when the medical should be bouncing back, then we should be able to be reaching close to our target growth for the full year. But what we are guiding to repeat, we are guiding the first half, which we see that would be sort of flattish.

[Matti Riikonen, analyst]

Right. Okay. Then second, you talk about the Chinese budget year ending, and creating, end of the year demand. What was it so kind of particularly good this year that made it happen? Because if the budget year is the same every year, then was the comparison particularly weak?

[Hannu Martola, executive]

Well, I think, the thing is there that the third quarter was weak because of artificial reasons. We must remember that public hospitals are well, -- I mean, they are funded, all the decisions are there to build new hospitals, to buy new technology. I mean this basic CT is a basic, I'd say, a must-have tool in any hospital, and must have enough capacity. There’s people coming ill to hospital. That's what you need to be checked with, the CT first. So this need is there, the funding is there just artificially because of this anti-corruption campaign, hospitals were careful, and they were a bit afraid of ordering. But then, as we are guessing, and what we were also told by our customers, that also the need to spend the budget so that your budget is not wiped out for the ‘24 was then stronger than this carefulness for buying the equipment. But this is then, I must say, this is our sort of a guess, but also based on some customer information.

[Matti Riikonen, analyst]

All right. And then thirdly, you talked earlier about the margin pressure, particularly in China. What is the situation now? And how do you think that it will affect your profitability going into '24?

[Hannu Martola, executive]

The price war is out there for medical. China is clearly a different market in health care than the rest of the world, because of this slowdown of the anti-corruption and the market sort of coming down. It has an impact for us also. We have to be very careful how we are pricing our products in China, so that we are holding on in a very competitive situation into some key projects. Some we also -- we know that we have to let some go. I mean -- and despite that, we foresee growth there. But I mean, short term, we have to be careful. It will have a slight impact to our profitability, if you really would look just into medical, but then it will be compensated with higher sales on security and industrial and higher volumes.

[Matti Riikonen, analyst]

So basically, operating leverage should help you more than the price competition is kind of putting brakes...

[Hannu Martola, executive]

I think the thing is if we look then at the performance for ‘24 on EBITDA level, I mean, we should be close to 15% without DTS. Now DTS, we must remember DTS is in -- as part of DT Group, and DTS is not yet able to deliver. I mean it -- meaning that actually dilutes. I mean, it starts to be -- we had nice growth for DTS for second half of '23. And we plan for growth also for '24. And just mathematically, you have sales that are not contributing into the EBITDA, vice versa, it's having a small negative effect because we are building the products and businesses for, later on, for medical, which -- and getting these approvals and so on requires efforts. And this is as we have told before.

All right. Thank you. I'll give the turn to others.

[Sami Sarkamies, analyst]

Sami Sarkamies, Danske Bank. I have a couple of questions. We'll also take this one by one. Starting from fixed costs, the level you had in Q4, is that indicative of what the fixed cost structure will be also in '24?

[Hannu Martola, executive]

Yes, roughly. What we had, I mean EUR 1 million savings for second half, as we have been informed, a savings of this focused efficiency program that carries as a run-through as sort of EUR 2 million or EUR 424 million. There will be some salary inflation, and these kind of things, but there also will be some savings. So roughly, in big picture, the answer is yes.

[Sami Sarkamies, analyst]

Okay. And then regarding the Chinese price war you talked about, was this already impacting margins in medical in the fourth quarter

[Hannu Martola, executive]

No.

[Sami Sarkamies, analyst]

So the impact will come then through the first half of the year?

[Hannu Martola, executive]

[nods]

[Sami Sarkamies, analyst]

And then regarding product mix in Q4, you had 47% gross margin, is on par with last year, a bit higher than in the third quarter. Was the mix good in your opinion in the fourth quarter.?

[Hannu Martola, executive]

Better.

[Sami Sarkamies, analyst]

And then finally, regarding sales progression in security and industrial segments during this year, -- you’re guiding for double-digit growth rates. Do you expect growth rates to ramp up during the year? Or is it going to be more steady going?

[Hannu Martola, executive]

That’s a good one. I don’t think we have visibility for the second half. We sort of have an understanding that the growth will continue. Right now, what we see is we have nice orders in, I mean, higher level of orders of our forecast, what we normally have had, which gives confidence for the first half for security and Industrial. But second half, it’s a bit early to sort of say what will – outside of that, that yes, there will be growth.

[Sami Sarkamies, analyst]

And if we think about the impact from, for example, the TSA program in the U.S., is that going to be evenly spread throughout the year or somehow back-end loaded?

[Hannu Martola, executive]

Probably, it will be sort of evenly spread In to the year.

[Felix Henriksson, analyst]

Felix Henriksson, Nordea. I have a few questions. I can also go one by one. Firstly, on R&D spent for Q4, it was EUR 2.7 million. I think a bit less than 10% of your sales, which is below your historical patterns. Do you think such level is also sustainable going forward?

[Hannu Martola, executive]

I think more it's closer to 10% to 11%. There's -- if we look at R&D spending, we have probably 70% is internal and then 30% are external, and they don't come balanced. You might have a, let's say, ASIC project, sort of some R&D onetime cost, NRI related to the design of an ASIC, et cetera. So it's impact of external versus internal.

[Felix Henriksson, analyst]

And then on this year's margin outlook, you mentioned that you'd be close to 15% without DTS. Can you give us any color on how much DTS will dilute margins in 2024? One percentage point, two, what are we talking about?

[Hannu Martola, executive]

I mean, what should I say? I mean, it's not a huge impact. I mean, I don't have the mathematics now in my head, so…

[Felix Henriksson, analyst]

And then you're also looking at double-digit growth in IBU for the first half of the year. Can you just explain what's driving this growth? Is it further progression in the automotive vertical or something else?

[Hannu Martola, executive]

Yes. I think it's -- no, I mean, the legacy business is coming back a bit, like food safety is an important part of that. We expect the demand to continue in the automotive, like batteries and also the like the tire inspection and so on. But then the legacy base is -- I mean, it was affected quite heavily first by the component shortages, then customers overordering, having stock and then driving down the stock. And I think overall, the market sentiment is more positive than it was a year ago, for example, or even half year ago.

[Felix Henriksson, analyst]

So would you say that inventory correction or destocking still had an impact on IBU in Q4?

[Hannu Martola, executive]

Yes, it had -- I mean, and also markets where -- I mean, if I say it this way, that markets are waking up and then you are melting the stocks and you have started to have a pool, sort of .

[Nikko Ruokangas, analyst]

Nikko Ruokangas, I could continue on the industrial business topic a bit. So do you expect already in H1 that, say, organic growth in IBU will be positive?

[Hannu Martola, executive]

A good one. I don't have the numbers in my head, but I mean, it's what I can say that the legacy organic IBU is improving clearly sort of from -- and then there's the DTS sales on top of that. And as an outcome, we will be then double digit.

[Nikko Ruokangas, analyst]

All right. And then when the IBO gets to organic growth. So do you expect some kind of faster recovery, given that you had quite a much organic decline in '23? Or do you expect like kind of stable growth going forward?

[Hannu Martola, executive]

I mean what we see is double-digit growth for IBU. So it was single in the fourth quarter, including the legacy and DTS effect, and now it's improving.

[Nikko Ruokangas, analyst]

All right. Then on security topic. So first of all, you just say that the TSA investments will be quite evenly spread between the quarters in '24. So will this quarterly impact be much bigger than what it was now in Q4 of 23...

[Hannu Martola, executive]

I think we had nice -- I mean, aviation growth was nice already for the fourth quarter. If we look at the security business unit, we had -- aviation was growing, India was growing. China was not growing. And by the way, if we look inside the security business unit is -- it's much more now -- or if I say this way, it's much less like China-dependent than it was before. So if China wakes up and starts to grow with the infrastructure investments, then that's sort of plus 10 for us. But this SBU is very much driven or pulled. The growth is pulled by Western Americas, U.S., Europe and India, especially.

[Nikko Ruokangas, analyst]

All right. And on India, how much is that out of your sales? And if you compare that to maybe a couple of years back, so how much has India grown?

[Hannu Martola, executive]

India still is fairly small, but the growth percentages have been quite big. And that's why it's even sizable for the security fourth quarter. If I look at our business in India, historically, we've done a lot -- or we've done some, I'd say, most of the business has been nondestructive testing, meaning all kinds of quality inspection for industries, of critical components, and systems and some security. Now, the security part really has started to be demanding. India is starting to have very big infrastructure projects in airports, in train system, in highways, and all this is driving the X-ray business further in India. And also what has happened is that there starts to be local players. There's even local players who have been aviation certified. And of course, these will be getting part of the India X-ray system infrastructure investments. And we see a long sort of a growth journey ahead in India. It sort of kick starting '23, the percentages were really nice. But still, I mean, what we had in 22, the sales was fairly low. But once this sales gets increasing, then, of course, it starts to have a bigger impact on our total business.

[Nikko Ruokangas, analyst]

All right. Then still on security topic outside aviation. Could you describe the sales outside Aviation, what kind of growth did you have in Q4? And then in ‘24, what kind of expectations do you have for security growth outside aviation?

[Hannu Martola, executive]

Outside aviation, I think before, historically, outside aviation has quite much been dictated by the China markets. And now it has been, sinceCovidd started, very silent in that frontier. The outside China markets have been much, much less for outside aviation. And what has now happened is that there's some growth or in the rest of the world especially then aviation has been driving plus India, the security growth.

[Nikko Ruokangas, analyst]

All right. And then one last from me. Could you give us indication about the Haobo impact in Q4? Was it roughly on the same level as in Q3 or... ?

[Hannu Martola, executive]

Yes, same level than Q3 about. So we had now Haobo with us in our books for the second half. The -- but in total, Haobo grew better than the legacy DT for the second half.

[Joonas Ilvonen, analyst]

Joonas Ilvonen from Evli. I was also wondering about certain Haobo-related issues. I don't know, do you have any further comments on those operating expenditures and investments you are going to make this year, I mean, in terms of the magnitude in absolute euros or something like that.

[Hannu Martola, executive]

I think the CapEx will be higher than ’23, I mean a big reason for that is that we are equipping the Oulu [indiscernible] 17, the new facility that's been renovated. So all these investments related to that, that's something that will have an impact on the investments. If I throw a number, probably investments CapEx will be somewhere between EUR 4 million to EUR 5 million. I understand you want to fill your Excel, so you can use any number you want between there, probably is well in the ballpark.

[Joonas Ilvonen, analyst]

And your net working capital has been trending up quite a bit in recent years. Do you see that you are able to get it now under control or even reverse that trend this year?

[Hannu Martola, executive]

Well, actually, we reversed it already in '23, not as much as we would have liked. One reason that has to be remembering that also now, one part of having Haobo books is that we also have their net working capital in our books. So we had a decrease if we exclude Haobo into the net working capital. Of course, including that, then the net difference probably is some negative. I mean, it would have been better without this anticorruption surprise on the medical. And also then last year, sales was very heavily actually focused in the fourth quarter. So all that sales is unfortunately still on our account receivables.

[Matti Riikonen, analyst]

It's Matti Riikonen, Carnegie. A couple of questions more. First of all, you made a bad debt provision of EUR 0.7 million in Q4. You have done this also in the past. Have you reversed the earlier ones? Or are they all in kind of your balance sheet at the moment?

[Hannu Martola, executive]

These are -- I mean, what we reported here for fourth quarter and full '23, those are now in the balance sheet as sort of provisions for accounts receivables, bad debt.

[Matti Riikonen, analyst]

What would be the kind of pattern to basically reverse them if the customers ultimately pay?

[Hannu Martola, executive]

If the customers ultimately pay, and we believe that there are no other risks and so on in the foreseeable future, then the pattern would be that we would have to reverse there.

[Matti Riikonen, analyst]

But for the moment, when you kind of increase the bad debt provision, it means that you basically think that the customers are still not going to pay, at least those invoices that they have due.

[Hannu Martola, executive]

I think, in big picture, we need to be prepared. I think the world is not a safe place today. So we have to be cautious and conservative in going forward.

[Matti Riikonen, analyst]

Then about the Chinese aviation security business, do you think that it would recover towards the end of 2024. What was that idea?...

[Hannu Martola, executive]

I think it's -- what we have visibility is that there are some airports that -- in China that are now sort of converting the line scan technology into CT. I mean, public information is that Hong Kong is doing right now. It's a massive airport, by the way. And we should see some also orders for these. But then, in a larger extent, I don't think anybody knows what's really -- what are the big plans. And China is more on an execution type of a system that they have all kinds of plans in the bookshelf, and they, for various reasons, they decide to pull in certain things and then they move ahead very effectively.

[Matti Riikonen, analyst]

So if we think about your internal idea of what kind of growth you are looking for, for '24, it basically includes that the Western countries are making this, or they continue to increase spending in aviation security, and there might be some small things like the projects that you know in China that will be probably done, but you are not kind of embedding expectations of a further, more broad-based aviation security investment wave in China, not at least in '24.

[Hannu Martola, executive]

Yes. I think maybe sort of something in between what you're saying and so on. So it's -- we have visibility of, for example, these 10 airports. In larger scale, nobody knows. I mean -- but we are planning also growth in our China security, aviation security business.

[Sami Sarkamies, analyst]

Sami Sarkamies, Danske Bank. I still wanted to come back to your CapEx outlook. You indicated EUR 45 million for this year. What would be a normal level going forward?

[Hannu Martola, executive]

Oh, that’s a good one, maybe 60% of that or, of course, depending very much on the growth. I mean I hope we grow fast, we then need to invest. So it's a tricky question. But I mean, the maintenance CapEx side, I think that 22 million was a bit on the downside. Also, there was no growth. This year is a bit on the high side because, also the Oulu facility, clean room and production equipment. And then, next year, I mean, very much pending on growth. And if we look more on the -- some new technology production equipment, then the maintenance CapEx, we probably are somewhere EUR 3 million to EUR 4 million level, but this is my guess, educated guess.

Okay. Thank you. Very active and good questions. I guess I was just informed that we don't seem to have more questions in the chat box. So I thank you very much. Thanks for bearing with us, and I wish you a very nice coming spring. Thank you, and bye-bye.