Engcon AB

STO:ENGCON B

Earnings Call Transcript 2023-Q1

[Krister Blomgren, executive]

Hello, everyone, and warm welcome to engcon's presentation of the first quarter 2023. My name is Krister Blomgren, and I'm the CEO here at engcon. With me today, I have our CFO, Jens Blom. Together, we will take you through the highlights of the quarter, and we will move on to the Q&A session after that.

So let's start with the big overview then. And we're still active on 16 markets but have now started up our subsidiary in Norway. It will be good short term for us that we get the margin there that we've been giving to the distributor. And long term, we will also have a good opportunity to increase the value per unit and take market share.

If we take a look on the net sales split per region, we can see that the rest of the world have been catching up with the Nordic, as we said earlier in the last report, so we'll see that. And the Nordics are now on 49% this quarter compared to the full year, where they were on 53%. Europe is on 34% and was on full year 32%. And Americas is on 10% and was on 9% on full year. Asia, 7% and was on 6% on full year. The good growth in all regions, actually, even though the Nordics are losing comparing to the rest of the world, they had a big growth as we will see later on also then in the presentation.

If we're taking a closer look on the main highlights from the first quarter. Net sales and profitability was on a record high levels with strong contributions generated from all regions, improved production capacity with a strong order book provided favorable conditions for high net sales. The price increases introduced during 2022 has now reached full effect, and combined with stabilizing material costs, the quarter shows a strong gross margin.

Looking ahead, macroeconomic uncertainties regarding inflation, interest rates, combined with shorter lead times are now making our customers more cautious in the purchasing behavior. Until now, we have focused on our end customer sustainability. Now we take the next step and commit to the time-based targets initiative with focus on ourselves and our suppliers. Income commits to lower emissions for Scope 1 and 2 with 42% until 2030.

Scope 1 includes direct emission from engcon's own operations and Scope 2 include indirect emissions from persist, electricity and heating. For Scope 3, that includes indirect emissions generated in the value chain, engcon's ambition is to measure and reduce these emissions then.

If we're moving on to the statistics and see how the quarter have been for us, have been performing. The net sale was by far the strongest in the company's history, even with the favorable currency effects excluded. The increase was 48% organic growth, and that's really a fantastic number for us. During the first quarter, economic uncertainties and short-term lead times has provided lower incentives for customers to place orders, this resulted in a decrease of 33% of the order intake.

The gross margin amounts to 45.6%. We can now enjoy the benefits of the price increases introduced during 2022. The margin is further strengthened by stabilized material costs and favorable currency effects. But it's a really good gross margin level for us to be on 45.6%. Record high EBIT margin on 28.7% was reached because of the strong net sales and the high gross margin and can be seen as an example of how our business model can perform during periods and generate high margins during those positive periods then.

During the last quarters, we have made strategic investments in the sales organization on growth markets to provide conditions for future growth. We also have cost for ERP implementation this quarter, and it's SEK 9 million that had reduced the EBIT in the quarter. But all in all, the record high net sales and profitability resulted in a ROCE level above our financial target of 63%. This is also a record high level. This is much explained by our capital-efficient business model with assembly and low investments in machinery.

We will now go over to business and financial development, and I will continue a couple of slides. Then I will hand it over to Jens Blom. So if we start looking on our sales and order intake then. The net sales reached record high levels and Q1 was our strongest quarter ever. Strong order book and improved supply chain generated high contributions from all regions. However, the organic order intake showed a decline of 33% compared to last year.

In 2022, the order intake was characterized by effect. Dealers had high incentives to place orders to secure tiltrotators to be able to deliver complete excalators to the end customers. This partly resulted in the dealers building stock carried over to 2023 that needs to be sold before new orders are placed. In combination with the gloomier economic outlook and a slow development in the construction sector, many of the dealers show a cautious purchasing behavior before signs of stabilization can appear.

Looking ahead, the lead times and order book are now back on normal levels. This in combination with uncertain economic outlook, give less guidance for the future or for the coming quarters. Having that said, it will be even more important for us to keep up the high activity level we have with exhibitions, demo days and the close interactions we're having with our end customers.

Looking at our market regions, we can conclude the following then. In the first quarter, the stars to align the strong order book and high production capacity generated an impressive net sales increase in all regions. It is, however, clear that the order intake has not matched the high deliveries and that more uncertain times lie ahead of us as we have mentioned earlier in the presentation.

The Nordic region increased net sales from high levels on all markets. Looking ahead, the high penetration rate as well as our strong market share make us dependent on the cyclic excavators sales. The order intake is negatively impacted by fewer construction projects started as well as dealers having stock.

On the positive side in the Nordic, we can conclude with the new subsidiary in Norway, we can now market the full income system, and it's pleasing to see how the market has started the year strong there. We also have a possibility to further penetrate the market in Denmark. We also see OEM reports indicating that the machine sales will remain stable during 2023 in Europe. And we don't see that it should be any difference in the Nordic countries. The price increase results have full effect during 2023.

During 2022, the deal is avoided increased by heavy preordering in Q4 2021 and Q1 2022. As you can see there on the picture, you see the drop of order intake of 38% but we're having a growth of 20% in net sales and to add 20% growth on a fully mature market is really, really good.

If we're moving over then to the European region, it showed great revenue growth across the board. Regarding the order intake, the picture is not as clear as in the Nordic region. We can see that Q1 2022 was characterized by heavy order intake from some individual OEMs. However, we see the same tendency as in the Nordic region with dealers being more cautious due to stock levels and slowdown in the construction sector.

On the positive side, like we previously mentioned regarding the Nordic, the OEMs indicate machine sales will be stable for 2023, and we still have a lot to further penetrate in all Europe.

If we then looking into the European order intake, it is down 39%. But as I mentioned, was also a little bit special with the bigger orders for the OEMs last year in quarter 1. But net sales have a fantastic growth on 92%. So that's really positive that the Europe growing in that way.

If we then moving over to the American region. We're having an impressive net sales growth. The order intake is on high historic levels, but flat development in Q1 2023. During Conexpo, it was clear that the interest for our products is increasing as well as the knowledge about the tiltrotators system with its benefits. We now have also more boots on the ground in North America and with a higher geographical presence to further strengthen our position on that market.

And there, you can see, as we said, it's a flat on the order intake, but it was on a high level, but we also having a really impressive growth of net sales, 113%. And the American market are hotter than the European market, if you're looking on a business perspective in that way.

So if we're moving over to Asia and Oceania region. We're having a strong net sales development. Order intake is increasing, but dependence on a few OEM companies in mainly then Korea and Japan is making it the comparison between quarters hard to compare since it's also lower levels in Asia-Oceania. But we can see an increase in order intake in 16% and a good growth on above 50% on net sales there.

Then I will hand it over to Jens that will guide you through the financials.

[Jens Blom, executive]

Thank you, Krister. We start with an overview of the EBIT and EBIT margin. We have a record high EBIT in Q1, increasing from SEK 91 million to SEK 198 million is an improvement by 118%. The EBIT margin is 28.7% compared to 20.4%. The record high result has been driven partly by higher net sales, price increase combined with lower disruption in the supply chain and a strong order book at the beginning of the year. The strong result also showed the strengths in our business model with scalable production and with relative low fixed cost.

Then we can turn to the profit and loss. The net sales goes from SEK 447 million to SEK 691 million. The gross margin goes from 40.3% to 45.6%. If we look further down, we can see that the selling expenses is SEK 76 million compared to SEK 54 million. And this is due to high activity in the market with exhibitions like Conexpo. And we also have an expansion in the sales organization, which put more boots on the ground.

Further down, notable is the R&D is SEK 8 million compared to SEK 6 million last year. And if you take into consideration what we have invested in the balance sheet, we are on the total of SEK 16 million for the quarter, which is approximately 2.3% of net sales. Most of these expenses is relative to the third generation of tiltrotator.

And if we turn to the bottom line, we once again can state a very strong result, SEK 198 million pre-IPO compared to SEK 96 million. On the rolling 12 months, we ended up in SEK 534 million with a margin of 24.5%. Then we can turn and look a little bit on the capital structure. As you can see, we're tying up more capital. We have 34.7% of the net sales compared to 32.1%. The main reason for that is that we have higher inventory in our more distance growth markets and the high activity at the end of Q1 gives a high level of accounts receivable.

The operating cash flow is SEK 5 million compared to last year, which was also SEK 5 million. And we can go to the return on capital employed. As Krister mentioned, we are on a ROCE on 63%. It's the first time we reach above 60%. This is a confirmation of our strong business model with a cap efficient production, and we have also strong profitability. The very strong start of 2023 creates good conditions to meet the upcoming quarters.

With that said, I now hand over to Krister, who will take us through the financial targets, and he will also summarize the first quarter.

[Krister Blomgren, executive]

Thank you, Jens. If we're then looking on our financial targets and our performance in quarter 1, we have a really good performance where we're exceeding all the financial targets.

And if we're looking on the growth target, where our goal is to exceed the growth in existing markets through organic growth with 19% on business cycle. We're having 48% net sales organic growth. That's a really, really good number for us to be able to grow that fast and again, shows with our business model with assembling that we can scale up fast.

Profitability. We have an EBIT margin in excess -- have an EBIT margin excess of 20% measured over a business cycle. Here, we're also having a record high EBIT margin of 28.7%. That also shows that our business model with centralized parts and able to just move on with salespeople and support and technical people in the sales companies. It's possible for us to have high EBIT margins during positive periods.

Capital efficiency. Our goal is to have a ROCE to exceed 40% measured over a business cycle, as Jens mentioned, we have a record high ROCE of 63%.

And if you look on the capital structure, our fourth financial target -- our goal is to have the equity to asset rate to be above 35% and we are on 48%. So a really strong quarter from engcon, where we're delivering on all financial targets.

And then now to the summary and outlook. In the first quarter, the strong order book, high margins and shorter lead times, generated record high net sales and profitability. As we mentioned, the proof of what we -- what can be achieved with our business model when everything works as it should.

Looking ahead, the order book is now lower, yet good levels, but they will give less guidance for the coming quarters. The order intake will be partly dependent on development on the construction sector and expedited sales. Right now, we can see the fewer construction projects are initiated, which lowers the demand for excavators. And we are now more depending on our efforts to sell.

You could also see a strong electrification trend at Conexpo. And as you can see on the picture, John Deere show their prototype electric excavator together with our tiltrotators. That was the main piece in their inside booth. They also show their new machines as a main piece on the outside booth together with engcon, and also Doosan or nowadays Develon show their prototype for full autonomic excavator together with an engcon tiltrotator, and this is exactly what we have talked about our Generation 3 tiltrotator. It will be prepared for it. So it's really good that we can see that the OEM are thinking in the same way as us. So we are linked in that way to see how the future will look like.

Sorry. It was a little bit earlier. Our capital business model enabled quick adoptions to new market conditions if needed. And we also working with sustainability, forms the basis of our business and long-term growth. We constantly work closely with our end customer partners to develop innovative, productive and sustainable solutions. By doing so, we can make a difference.

With time-based targets, we get clear road map that reduce our own and supply chain greenhouse gas emission and contributes to the global climate transition. However, the benefits that the system offers our customers are more relevant than ever. And then if we're moving on to the next picture there. And in the time of increasing uncertainty, it's good to remind ourselves of the strong benefits of engcon's products.

To me, it's clear that the case for our tiltrotator system is stronger than ever. When inflation in interest rates are high, the positive impact on our end customer profitability is clear. The tiltrotator can increase the productivity and efficiency in an average 25%. We'll reduce our end customers' investment needs, a tiltrotator-equipped machine together with hydraulic tools can replace 2.2 other machines since it makes the machine to a tool carrier that can serve many purposes.

We also save fuel, more efficient machine needs less fuel. The 30 metric tonne machine saves 6,000 liter fuel per year with the tiltrotator on it. Not to mention the impressive CO2 saving of 130,000 kilos CO2 for the lifetime of that excavator. This is on top of the significant increased safety levels by reducing the needs to leave the cab and reduce the need of people around the machine, because most of the actions are occurring when you're leaving the cab to go in and out to switch tools and so on. And you don't need to do it because you can do everything from the inside. And also to reduce the need of people around the machine, it saves money, but you also reduce the risk of dropping something on somebody or anything like that.

So having an income as a partner, our end customer, offered great tools to improve profitability and safety with less impact on the environment. This is how we change the world of digging. And we will finish up with a picture where we're bragging a little bit about ourselves. At the event, IPO of the year, when the business magazine Affärsvärlden handed out its annual awards during the ceremony in Stockholm, engcon was awarded 2 prices, the Jury's Grand price and the price for Quality in the Billionaire Class.

So thank you for listening to us and our presentation of our Q1 report. We will now open up for questions that can be asked in the telephone conference. So operator, please go ahead with the first question.

[Operator]

The next question comes from Agnieszka Vilela from Nordea.

[Agnieszka Vilela, analyst]

So my first question is, Krister, on your comment that you would expect somewhat lower order intake in the coming quarters. Could you just give us a bit more color on that? Do you mean also sequentially from about SEK 400 million level that you achieved in Q1? And also if there is any kind of difference between the regions?

[Krister Blomgren, executive]

As we said, the guidance is harder to do right now than since our order book is short and we more have the normal way of ordering it when they're achieving the machine, they ordering it, they want to be delivered within 2 to 4 weeks. So it will be short in time. And we see that if we going into regions, then we can see that the Nordic region are having more stock in -- with the dealers than the other regions. So it might be especially the Nordic regions that still will be hurting a little bit more in the Q2. The other regions we expect to be picking up again a little bit when you're getting more and more clarity regarding inflation, interest rates and these type of things.

And the positive thing that we have seen is that the reports I think from the OEMs and so on with stable number of machines coming out. So it's hard to give you a really good guidance regarding the order intake. But the guidance is more maybe we will not be on this SEK 700 million level order intake as we had in net sales. As we said, it's not matching right now.

[Agnieszka Vilela, analyst]

Yes. All right, understood. And then just a follow-up on that. Do you still have a bit, so to say, elevated order book? Or is it now coming lower? And also then, as a result, do you expect that sales already in Q2 or maybe in Q3 will be more in line with the order intake? Or will it still be above?

[Krister Blomgren, executive]

Yes, that's a good question. There is -- it's hard to predict, as I said, but we're having a good -- we still have a good order book for -- as we mentioned here earlier. And we hope and believe that the more stabilized inflation and interest rates will be, it will be picking up. And also the Nordic region, the order intake will pick up when the stock in, where the dealers are start disappearing. We hope also for a positive effect in after Conexpo that we will have an increased order intake in the U.S. there. And then we're having a good stock in U.S., we can deliver fast there also. So right now, it's really short time for us to -- from order to deliver and that makes the prediction of each quarter very, very hard for us.

[Agnieszka Vilela, analyst]

Yes. I think I will try to rephrase. I think my point was like if we assume that your orders in Q2 are stable quarter-on-quarter, so at about SEK 400 million level, do you believe that your sales in Q2 will be higher than that? Could it be SEK 500 million or SEK 550 million because you have some order stock that you could still deliver to? Or is it shortened that much that it doesn't really matter. So what you will deliver in Q2 would be just the orders you got basically in Q1, maybe something from Q4?

[Krister Blomgren, executive]

No. No. I mean you can't say that we will deliver what we're having in order intake exactly in Q2 because since we also can take orders and we can deliver those orders directly in Q2. So the expectation, I would say, is to be able to deliver more than what we're having in the order book since having this.

We have the components, we have the people and we can deliver in short time as we have done for 30 years, it's just been during these pandemic years with the supply chain problems we've been having a long order book. So -- but of course, they are more hesitant to place orders. They will not place any stock orders or anything like that. It will be more units definitely sold to end customers and so on. So that would be the difference where we will see. But we can definitely deliver more than what we're having in the order book right now.

[Agnieszka Vilela, analyst]

Okay. Perfect. And then before I jump back to the queue. One question on your margin performance in the quarter, obviously, fantastic margin of 29%. Maybe Jens, if you could -- or Krister, if you could comment on what were the main margin drivers, was it the production volumes, pricing or lower material cost? What was the most important for the margin development in the quarter?

[Krister Blomgren, executive]

I can start and you can continue, Jens then. I think the biggest was on the cost of material that we've made an increase where we got the full effect, especially to the Nordic region on the price increases. And the prices, as we mentioned, have stabilized on the material on the components, even maybe start dropping on some and so on. And of course, help of the high net sales then. I don't know if you want to add anything extra into that, Jens.

[Jens Blom, executive]

No, that's correct.

[Agnieszka Vilela, analyst]

Okay. Perfect. I will get back to the queue.

[Operator]

The next question comes from Kenneth Toll from Carnegie.

[Kenneth Johansson, analyst]

Yes. So to follow up on Agnieszka's question on very high margins. You have increased prices quite a lot last year and a little bit in the beginning of this year, and now we have very, very high margins. Do you think you will be able to keep the prices on the market when raw material prices start to come down a little bit? Do you expect competitors to start lowering prices? Or do you expect your customers to be a bit upset with your very high margins now that it's very official, how much money you are making?

[Krister Blomgren, executive]

Hard to comment on if they will be upset with it. But we -- as we see, we generate a lot of value to the customers. And -- if you're looking on the things that we ended up talking about, not when we were bragging but with a 25% more productivity and less -- fewer less machines, it is still a really short payoff time for buying a tiltrotator. So I think on the products like the tiltrotator and hydraulic tools, we add a lot of extra value where it might be price pressure is more on the mechanical tools like buckets and so on where we will see if the steel prices start going down that we need to adapt to that. But on the tiltrotator and on hydraulic tools and so on, I think they see the benefits with it and they see the value added into it.

[Kenneth Johansson, analyst]

Okay. And you don't think that your competitors try to take share by lowering prices and getting more business that way?

[Krister Blomgren, executive]

They might do it, but I don't think so it's trying to be humble then, but we are the one that are the market leader, and we are the one that are making profits. The other ones are having a little bit smaller margins than what we have in. So they're probably welcome this.

[Kenneth Johansson, analyst]

Okay. Great. Another question is on the legal process with the Rototilt, they -- in the beginning of this year, they increased the claims in the process. So can you talk a little bit where the process stands and where you're seeing it going forward?

[Krister Blomgren, executive]

Yes. We've been having the first hearings and so on regarding it in court and -- so that was in end of March. And the verdict or so will be the 15th of May from that. But I don't think it will be an end to it then. If we win, they will probably move it forward. If we lose, we will move forward with it. And we also, at the same time, are running towards the European patent. And I think it's planned to this often some time where we will meet that regarding -- that regarding in the European patent. So I think, unfortunately, this will be something that will be keep going on for at least rest of 2023, at least.

[Kenneth Johansson, analyst]

And you haven't had any reactions from your customers due to this or any other impact on your business other that this legal process?

[Krister Blomgren, executive]

No, no, not at all. Actually, there are nobody is asking about it. They ask why they have sued us, and we try to explain what it is regarding sensors and stuff like that. But there haven't been any customers that have been talking about that. And I don't think it's that known, at least not outside Sweden than.

[Kenneth Johansson, analyst]

Okay. That's all for me. .

[Operator]

The next question comes from Agnieszka Vilela from Nordea.

[Agnieszka Vilela, analyst]

I have 3 follow-ups. My first question is on Conexpo. If you could comment on what the impression was there from customers and also do you expect a stronger orders momentum in Americas and the back of this event in the coming quarters. Orders in Q1 were a bit subdued in Americas. But if you could tell us what do you expect going forward?

[Krister Blomgren, executive]

It was a really good show for us. We had a good booth with 3 machines in it, 2 for testing for customers and 1 showing them or what we could do with all the tools we're having and so on. We had a good crowd in our booth all the time. We actually got comments from others that they -- so we had 1 of the best booths with a lot of activities, and they wanted to place us between -- just beside them to make sure that they get more attention also.

So a lot of positive comments. There were a lot of tiltrotators on Conexpo. We could also see that the customers have learned a lot compared to the questions 3 years ago. They are on a much higher level where they understand the benefits of it. They still maybe need -- some of them need to think about a little bit, but the much, much more question. It's not -- even though I love to be a magician, they understand now that how we do it. They understand that it will last and not a question about that everybody will break it or anything like that.

So I think we've been reached a lot of levels higher up. And we could also see now bigger interest coming from new regions that haven't been that strong for us in North America, like Texas and the southern part of North America. So a lot of positive impact, I think. And as I mentioned, with John Deere that we're having, booth on their inside booth. They were on the centerpiece with the electric machine, engcon tiltrotator and also on the outside booth, they had. They were also the centerpiece, the new machine, the first one they produce by themselves was also an engcon on that one.

And we also were on the Develon machine that they showed and have live demos with their full economic excavator with an engcon tiltrotator on that. So -- and there were also a lot of other tiltrotators there, never heard of those type of brands. But again, as I said, regarding the Bauma. I think it's positive that people more and more think about engcon, sorry, tiltrotators, and that will increase the penetration. And then it's more fight about winning that war to get everybody to join this revolution with change in the world of digging. So we should not fight against each other, we should fight against those that doesn't have it.

[Agnieszka Vilela, analyst]

Yes, sure. Perfect. And then just to follow up on that. Do you think that your order intake now as a result of that event and more awareness of the product will sequentially improve in Americas?

[Krister Blomgren, executive]

That's my belief, at least. I mean, we had more than double up in leads compared to last Conexpo, it had to pay off. Otherwise, we will be disappointed.

[Agnieszka Vilela, analyst]

Perfect. And question on cash flow, which was relatively weak in Q1 despite strong EBIT that you booked. And obviously, there is the working capital dynamics here. Do you expect the working capital to be released in the coming quarters? And maybe also, Jens, if you could comment on quite high tax payments in Q1.

[Jens Blom, executive]

Yes. Our belief is that we will strengthen the cash flow in the coming quarters. And so when we get paid by account receivables. So that's my belief. And on the tax there, we had a couple of years with high profitability. And then now in the Q1, we need to pay taxes for that and that's something we are -- have to do and proud of. So -- but yes, that's my comment on that.

[Krister Blomgren, executive]

Yes. You can also see accounts payable that are pretty low, and that will be also an effect that we were trying to lower down the stock a little bit, since we don't need to have that safety stock as we've been having now with the supply chain has been in turbulence mode, and now it's more stable. So we can also lower down the safety stock we're having. So I think they are both accounts payable -- accounts receivables, sorry, for us, and the stock will help us the coming quarters then in the cash flow level.

[Agnieszka Vilela, analyst]

Yes. But sorry, a follow-up on tax only. So the tax paid out in Q1 that was also deferred tax that -- or should we expect a high tax level in your cash flows going forward?

[Krister Blomgren, executive]

In some ways, it will follow a good result, of course. So some of it will buy, but not as much as the first quarter because we had a high tax debt, so we need to pay in the first quarter. So it will be more smooth, I think.

[Agnieszka Vilela, analyst]

And the underlying P&L tax is about 21%? Or is it a higher rate for your group?

[Krister Blomgren, executive]

We have been on 21%. And I think it's good approximation to account.

[Agnieszka Vilela, analyst]

Okay. Perfect. And then the last one for me. Just if you could give us the update on the status on your kind of organic investments in the business both in terms of recruiting talent and also in terms of capacity expansions in your factories. Just tell us what's happening? What do you plan? And how much will it cost?

[Krister Blomgren, executive]

Yes, we are still building up our sales organization even if we have made the biggest steps regarding that right now then. But we have some investments that we will do and finalize here in Q2 or Q3, both people and also in U.S. as we talk about bigger warehouse and so on that we need. And to increase the production capacity, we had a meeting here last week regarding our building in Poland, and now we will go out and get the quotes for that.

And hopefully, we'll start building that after the summer. And if it will be done by the end of the year, we don't know, but hopefully it will be done by the end of the year. And rough estimates are still on the level that we talked about for that earlier around SEK 40 million then for the extension in Poland, including machines that we need.

[Operator]

[Operator Instructions] There are no more questions at this time. So I hand the conference back to the speakers for any closing comments.

[Krister Blomgren, executive]

Thank you, everyone, for good questions. And if you have any further questions, please don't hesitate to reach out to any of us. We are more than happy to try to help you. Thank you for listening in today, and we hope to see you all soon again. Thank you very much from engcon.

[Jens Blom, executive]

Bye-bye.

[Operator]

This concludes the call. You may now disconnect.