AQ Group AB

STO:AQ

Earnings Call Transcript 2022-Q2

[James Ahrgren, executive]

It's 9:00. So let's start. So welcome to AQ Group earnings call for quarter 2 2022. I will try to have a brief presentation. Hopefully, it will be less than 30 minutes long. And then please save your questions for later. And just after -- when we come to the Q&A session, just unmute and then we take the questions as -- yes, it will be simple. So let's go.

Second quarter, I guess you have already read the bullets. It is a strong growth quarter with more than -- way above our target. We have decreased the operating profit at the same time, which we are very disappointed with. Also EBT is down from last year and the profit margin before tax is also down. So not very happy about that. Cash flow is also quite low. It is natural because we have such a big growth. And also, earnings per share is down in the quarter compared to the same quarter last year.

If we go into first half year, it's the same picture really. Net sales are increasing very rapidly. Operating profit is decreasing somewhat. Same with EBT and EBT margin, which is going down, and also the cash flow is going down because of the high growth. So our earnings per share also have decreased compared to last year first half with 12.3%. Our equity ratio is still very high. We have a strong balance sheet versus equity.

If we look at earnings per share growth, then we see that it's not growing this year. If we look rolling 12 months -- sorry, if we look rolling 12 months, then it's not growing. To be honest, we have 4 straight crappy quarters where the profit is lower, and we are working harder to reverse this, I would say, improvement is in progress. And I think we should be able to increase profit for the full year compared to last year.

To turnover then. We see a very strong turnover growth. About half of that growth is due to price increases. But at the same time, we still see that component supply limits us in Electrical Cabinets and System Products business areas. They have a lot of components in them. And then also, we had one of our business subsidiaries in Shanghai was shut down for 6 weeks due to COVID, which reduces turnover in the quarter with about SEK 10 million. It is not orders that disappeared. They are just moved later.

And then we have a big customer in U.S. Canada that has a strike at the moment. So that affects volume in June by SEK 10 million as well. And then we have, in the quarter, moved 2 of our factories to bigger locations. One is the factory in Lithuania where we have built an own building, which is almost double the size of the previous one. And then the other factor is our transformer factory in India, where we have also doubled the square meters because we see an increased growth from our customers. So we need more space.

But despite all of that negativity, we see a very strong growth in the quarter and also continue to increase versus previous quarter, which is good. We aim to continue this trend. So organic growth is very high, as I've said, and then to point out that we believe that the real organic volume growth is approximately 11% compared to same quarter last year and 10% of the growth -- the organic growth as reported is price increases versus last year.

When we look at -- yes, I should mention here also, we have a growth on the company level to grow 15% net sales every year. And we have now switched the target. So since the inflation is so high, it's too easy to beat this 10% organic growth target. So we have -- we had 5% before. So we have increased it now to 10%. On the other hand, based on the situation we're in with the strong growth, we have decided to lower the ambition on the acquired growth because basically, we acquired a big company last year, and then we see that we need really to focus on the big organic growth that we have with our existing customer businesses and also to improve the profit levels.

So that is the main focus now for us to really handle all the new projects that we have won and start to deliver out those and make more profit on those as well. That is the main focus, even though we will never stop looking really for acquisitions. But anyway, that's focus now for us.

If we look at the margin then, which I guess is a big interest for all of you who attend this call, as I've said in all my previous calls, we believe that in a healthy state, we should be somewhere between 6% and 10% in EBT margin every quarter. We are just above now in quarter 2, and it's really too low and it's really declining trend as well. We have been fighting a lot with price increases, and I think that we have managed to come through with a lot of customers and several of our businesses are showing sustainable gross margins.

However, we still have work to do, especially in our companies that have a lot of automotive customers. They are masters in procrastinating this increases and making it very hard and slow for us to implement those. Even though we have a lot of index clauses and such in our contracts, those clauses do not really represent reality what we have to pay to the supplier. So it's a hassle for us. In the quarter, we have managed to renegotiate a lot of contracts. We have managed to terminate some all the bad parts and so on, but the effect on the P&L will come later for that.

And then in addition to this, we are working with, as I stated in the report with our company in Mexico to improve operational performance and profitability there and 2 transformer factories in China where we see a big change in profitability versus last year. And I think it is sort of a quick fix. We can fix that one. But it will take a little bit more time. And it's not fixed in this quarter but -- or in the last quarter, but I think we can fix it now in quarter 3.

If we look at the cash flow then, we see also a declining trend here. It's quite natural when you grow as fast as we are doing. We need more inventory to be able to produce to our customers, even though I believe -- I will have an inventory slide later on, even though I believe that we have maybe increased a little bit too much, and we need to continue to work on that so that we get the inventory turnover up to speed again. However, the -- and then also, of course, accounts receivables increased a lot. So -- but we don't see any big risks in those.

Then in June, actually, the cash flow was quite good, which is natural because we have quite a shoppy -- we deliver out a bit shoppy now. So it's a very big difference in turnover with different months. And in March, we had a big -- a lot of big deliveries and the same actually now in June. But it's good at least that the cash flow is at least coming back. And we see that once this growth will become more stabilized on a little bit lower level, then the cash will come.

We see that our net debt is increasing. It is due to partly, of course, because of not good enough cash flow, but also we are doing a lot of investments now to be able to cope with all the volume that we have. So a lot of that is in inventory, the net debt, but we have also bought several new machines in the quarter. We are investing in facilities in Lithuania and Bulgaria. Bulgaria is not coming in this quarter, but next quarter, the new factory there. I will come back to that. The Lithuanian plant was taken into operation in this quarter. So here we see a big part of our investments there.

So net debt is increasing a little bit. But I would say net debt versus EBITDA is still on a very, very low and healthy level. So we are not worried about our debt at the moment. And this is why we've had a very sound financial structure to be able to catch this growth that we see now. We think it's -- yes, it's good. This is one of my worries. So if we can conclude my worries that makes me sleep less at night is basically our -- it's the inflation as such and our ability to implement price increases and the second one is the inventory, which has gone up a lot over the year.

We are -- we have now put action plans in place at all our companies, and we aim to get back to 3. We are currently on a record low level of 2.1 turns per year. It's a little bit natural in the way we calculate also when we have this super strong growth that it becomes a little bit lower. But I believe that we will be able to at least come back to a better level in the second half of the year. And the reasons for -- it's natural, it's the growth and price increases of the raw material and also the missing components affect quite a lot, but we are not able to deliver out everything that we should. So we have more work in progress than we normally have.

If you look at our on-time delivery, it is also not good. I think it is not -- we are not alone. We see it, of course, in our supply chain, which is actually much worse than this. So we're able to -- through the higher inventory to cope with some of these swings that we see in our supply chain. But nevertheless, it is -- I think we've never been this low as long as I can remember, and I've been with the company for more than 10 years. So we have a lot of work to do, and we see that some of our customers are really pulling volumes and then going down in volume and then up again. So it's quite difficult for us. But here, we have a big opportunity to improve really. But still, if we cannot get all the components, it's very hard for us to deliver on time.

Maybe the most exciting part of this presentation is these projects that we have for future growth. We start with this one, which maybe I'm most excited about this investment that we sent out a press release a couple of weeks ago. We invested now EUR 5 million in brownfield in Pernik, Bulgaria. It is about 30 minutes from our main factory in Bulgaria in Radomir. We needed to -- this factory has grown basically 50% per year, the Radomir one for several years, and we start to become too big in this small town where we are here.

So then we decided to go to Pernik, which is a little bit bigger town, but it is not huge. And it is just 30 minutes from our old factory, as I said. And it's a really perfect location for us to be able to increase our output from Bulgaria to mainly to Europe going forward. This factory will then produce -- you see some of the cabinets on the picture to the left. And it is for one of our customers, a new customer for us, where they produce battery storage systems for storing renewable energy.

And we will not build battery as such. I mean it will be a battery, but we will get the batteries from China in this case, and then we will assemble them in big cabinets, which we have welded and painted, and then we will ship it to our customers in -- customers mainly in, I would say, in U.S., Taiwan and U.K., these first orders that we have won together with them. And we currently have orders now for EUR 12 million. We have already made some deliveries, and we believe that there will be additional volume of EUR 12 million in 2023. So this will be a main driver for growth going into 2023. And also worth mentioning that the margin for these projects are in line with our target for the group.

We're doing some projects also with supercapacitor banks, with development projects. Actually, our customer lost the first project they had in Europe, but I think they will fight for more projects. And I think it is a very interesting thing to be able to balance the load when you have a lot of wind, for instance, in your power system. But for us, it's basically electrical cabinets, even though it's called supercapacitor or something.

And then in wind power, we see very strong sales in our transformer inductor field, especially from Estonia, but we have also in China and India and in U.S. and Hungary sales in this area. And it is on a record level. And here we sell mostly these water cooled transformers and inductor and they are quite hard to do. So we believe it's a very good product for us.

We have also managed to sell big aluminum steel structures for the biggest wind mill in the world. It is a project run by GE called Haliade-X, and it is a big -- yes, a big project for them and quite a big project for us. We see additional potential in that project for our factory in Hungary as well going forward. So we think this is an exciting area to be in because despite inflation and everything, I think everybody understands that renewable energy will continue to grow for many years to come. So we need to be there.

I've talked about railway. We see -- we still believe that this is a strong growth area for us. We see in the quarter that we have won an extension for transformers and inductor for the M7 project in Belgium. We see that C30, which is -- you can see the driver desk down to the left there, it's the metro in Stockholm. We are doing also all the electrical cabinets to see them behind the driver desks. We're doing all the transformers and inductors for that project. So it's a good volume. And it has been a little bit on hold during some time. Now the deliveries are starting again.

We see also now that bus volumes are coming back in Europe and Mexico for our wire harness plants. And I think our biggest customer there, Volvo Bus has also launched a new coach, which is -- yes, more energy efficient and much better bus than the previous one. Very excited about that. Then we have also designed and it is an own product. Actually, this is charge rail for electrical buses where we sell to basically all big OEMs in Europe. And it is our design team AQ Engineering in Torslanda, who have done that design. And now we have done a redesign, which is more cost efficient and better and it will go into production now in quarter 3 and quarter 4. It's not a big, huge volume, but we're very proud of that being part of the electrification of buses and charging of those.

If we go into commercial vehicles, we see that our -- we are growing in the Construction Equipment segment. This is also affected due to the Ukraine - Russia war, where one of our customers had to move a lot of their volume to us from a supplier they had previously in Russia. And we have signed now an agreement with them for additional EUR 9 million per year, and the serial production, we have already started all the prototyping and done a lot of that now in Q2 and the serial deliveries are starting mid-quarter 3, and it will go in full swing end quarter 3.

We are also -- have done now during this half year, a big ramp-up of the fender production. A fender is what protects the wheel or the splash from the wheel, so to speak on this big yellow construction machines. And we have won a big project several years ago, I think 3 years ago, but now it's gone into serial productions, and we are delivering now at full speed since a quarter basically.

For trucks, we have won more than 200 new parts for one of our customer's new electric trucks, which are now in prototype and ramp-up in our sites in Sweden and Estonia. And then we are -- this we have communicated earlier, but we're implementing also this wire harnesses for a big CAB for a truck company in Europe in our factory in Lithuania and that will go into full serial production 2023.

We still see big growth in our med-tech business, which we think is fun. Our 2 big customers there. We are basically doubling the volume, and it's a lot about welding of stainless steel. So we have doubled our production space for that in Bulgaria, and we are increasing output now. And I think it will be about double volume this year compared to last year. This we're excited about. And we will continue to try to grow this business because we believe it's very difficult to do. It's very, very high requirements. So it becomes a big moat. It's not too easy to replace us.

And then we come into Q&A.

[James Ahrgren, executive]

I will try to see if I can do like this, so I can see you also. So there we go. So please raise your hand if you have a question or -- on any specific topic. Christoffer, ask a question.

[Christoffer Ahnemark;Origo Fonder;Analyst, analyst]

James and Christina. This is Christoffer from Origo Funds. You touched on that earlier, but you're still expecting earnings to increase from 2021, then you expect a solid second half of the year. What are you seeing more? Can you elaborate further?

[James Ahrgren, executive]

Normally, we don't do forward-looking statements. But what I can see also the comparable quarters for last year were not as high as the quarter 1 and quarter 2 in 2021 also. So I believe that we should be able to come -- yes, I still believe that we should be able to come better than those quarters last year. So yes. So -- and it is partly volume related but also on the price increases that we have been able to agree at later part of quarter 2 as well. That will be implemented during quarter 3. So I believe that it will be definitely look a little bit better.

[Christoffer Ahnemark;Origo Fonder;Analyst, analyst]

Yes. Excellent. Yes, you're meeting -- if you're comparable, so obviously from the third quarter. And in terms of demand, can you split up any particular sector that is strong because you have strong demand across the board, but any particular outlier and potential weaker segment.

[James Ahrgren, executive]

No. To be honest, we see -- we can say a weaker segment. We see still that the marine side for us is still quite weak, but we have a lot of orders there, but most of that volume is coming in '23. And we are delivering big transformers for ships and also a lot of our electrical automation equipment is going into different types of roro ships and these kind of things. But so I believe that, that volume will come in '23, but it's low now. But other than that, we see that we previously have stated that railway and buses have been quite low, but it is -- what we see now is that it's coming back, that people there now to go by bus and train again maybe. So I don't really see any bad sectors.

But then again, I read the news as well, and I'm worried about the truck volumes. But what we see now in our forecasts and what we have delivered out this quarter is very, very high volumes. So we cannot really see any slowdown in those segments now. I don't have that visibility at least. But then again, it's very hard to see.

[Christoffer Ahnemark;Origo Fonder;Analyst, analyst]

Yes, yes, given the macroeconomic uncertainty, it's very difficult. And in terms of M&A then, because you obviously are investing for the future, expanding your production capacity. Do you see any bolt-on acquisitions or anything like that for the second half of the year? Or how does the M&A pipeline look like?

[James Ahrgren, executive]

I would say that we -- I mean, we always have our list with companies that we are speaking to. And I mean we have interesting companies that we are looking at. But at the same time, I would say that we have so much growth now to take care of. So I would say we need to focus on getting that in place and make sure that we make enough profit on those projects rather than to jump into any acquisition. On the other hand, we are always opportunistic. So something can still happen, but I would be -- yes, I would say, we are trying to take care of all the volumes that we have at the moment because we have won a lot of new projects.

And I think this -- just this battery factory is a huge project for us. It is not some small thing. And our customer wants to buy a lot from us and they want to buy it fast. So it is -- in a way, I see that as an acquisition because to get -- to be able to have a very -- an automated factory, especially for the sheet metal where we will have robotic welding and so on for that type of process in Eastern Europe will be very competitive, I believe. And yes, there are more customers there out there that need this kind of -- yes, product. So we think that this is very exciting.

[Christoffer Ahnemark;Origo Fonder;Analyst, analyst]

Yes. And in terms of production then because you have obviously expanded your production footprint. And how much capacity are you adding now with the Lithuanian factory coming online? And can you give us a number or a figure?

[James Ahrgren, executive]

I mean the Lithuanian factory is basically, we are doubling the output there. And to give you a number, then it used to deliver about 45 -- I just need to give you the right number, EUR 45 million per year, and that will double. And we believe it will be not full, but very highly utilized during 2023. And then the factory in Bulgaria, I expect it to have an output -- that site to have an output of similar -- I mean, basically EUR 40 million by 2024. That is my expectation. But then again, we -- it all depends on if our customer wins orders and so on.

[Christoffer Ahnemark;Origo Fonder;Analyst, analyst]

Yes, of course, on the demand side.

[James Ahrgren, executive]

Yes. [ Johan ], you had a question as well.

[Unknown Analyst]

Just a quick question on -- I'm just trying to understand, you're running 6% margins approximately, say, 1% to 8%. If you look at this deviation, how much would you say is -- what is pricing discipline in your company? And what is the disturbances in production? You talk about this 90% precision, right? You want to be at 99%. Could you divide it a little bit in those buckets, if possible?

[James Ahrgren, executive]

No. But I would say that normally, when you have this high volume that we have now, I mean, when you grow this much, you should get an over coverage as well. So I would say that it is 2% of price increase towards automotive customers, mainly. There are some other companies where we are slow, but we have had now a program running where we -- I think we have been able to catch up in most of our factories, but we have 2 big sites in Europe where we really need to work with our automotive customers to get back on track with our gross margins. And then I would say that there is another 2% to be gained when we get up to speed in terms of productivity with all the new people that we are recruiting. It takes, especially in our manual processes where we have manual people doing work. When you grow that one very fast, then it takes time to get them really to be able to deliver at the same speed as the more experienced operators.

[Unknown Analyst]

Okay. And just a quick follow-up. I mean, I guess, from our perspective, we've been in the last sort of 6 months, it's been an excellent pricing environment. There's a very high acceptance for price acts. And that's not going to last. Of course, it's going to be more competitive looking forward. But to what extent do you feel that you have a corporate governance problem in the company where you take all these orders with poor cash flow, poor margins? And the second question I wanted to ask is what are you seeing currently from the fairly dramatic falls in some raw material prices that happened quite lately here? If you could just talk about how that could potentially impact you in the second half here.

[James Ahrgren, executive]

Okay. Let's start with the first. I don't believe that we have a corporate governance problem. However, what I do believe is that we are -- I mean, I think almost no people that we have employed in our company have seen this kind of inflation ever. So I think it's also a matter of getting used to for us and for our customers, a new environment. And yes, I agree with you. We have been slow in some areas to improve our pricing. But it's also a new situation for us with -- normally, it's -- yes, it is not a normal situation for us. And then I can say that -- I believe that we have okay pricing power and negotiation power in that sense. However, we are really -- we really have been slow with this big automotive accounts.

To try to answer second question, -- and to -- yes, I can elaborate a little bit more on that as well. I believe it's not new orders. It is a lot of these old running products that we are having more problems with the new orders we take because the new orders we take, of course, they are -- there is a new calculation behind that. So I believe that it's more all the products that have been running for a long time where we have a pricing problem than the new ones. Second question was regarding raw material prices going down. Of course, we will see an effect on that. What we can say is that -- we see also that these suppliers of raw materials also have an inflation problems. Even though the LMEs are dropping, we still see that this conversion rates that they have for us -- they are still trying to put them higher. So I -- and I think we will see some effect, absolutely, especially in aluminum and copper.

On the black steel side, I think it will be more or less rollover because we locked our prices in the beginning of last year -- in the beginning of this year. And actually the steel price hasn't gone down. It was like a lower there. We locked it for 6 months. So it's basically a roll over for us for black carbon steel fin material, which is the volumes we have most in that business area. And for components, we still see that the prices are quite high, even though raw material have gone down.

More questions? Okay. If you have further questions that you don't want to raise in this call, feel free to call me. I think my phone number is in the report, so -- and also Christina's number is in the report. So just feel free to give me a call in that case.

Thank you all for listening, and I wish you all a great summer.