Engcon AB

STO:ENGCON B

Earnings Call Transcript 2023-Q2

[Krister Blomgren, executive]

Hello, everyone, and warm welcome to engcon's Presentation of the Second 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 then we'll move on to the Q&A session after that.

So let's start with -- so I'll start with a little bit background regarding engcon. In 1985, Stig Engstrom, our founder, saw the first prototype of a tiltrotator and he realized directly this will change the world of digging. In 1990, he started -- founded engcon and we started selling tiltrotators by ourselves then; engcon have grown a lot since 1990.

The year 2022, our net sales was SEK 1.9 billion, and we were active on 16 markets globally. We had 440 employees, and we have kept the entrepreneur core as well as our vision. And our vision is to change the world of digging. And what do we mean with that? We -- so far, it's 98% still that doesn't use a tiltrotator, so they're having the bucket directly mounted to the boom and only 2% having a tiltrotator on it. And if you're looking into the Nordic, we are -- approximately 90%, they're having a tiltrotator on their excavator. So we have changed part of the world already in that way. Now we're looking to trying to change the rest of the world and getting those 98% to change to a tiltrotator.

And why should they change to a tiltrotator? And how are we going to make them change this? Because we're having superior value proposition for them. We increase the productivity. We increase the efficiency with approximately 25% in average. Some, it's more, up all the way up to 50%, some, it's less. But we also make the machine much more flexible with the next -- with the tiltrotator on it. And we also, with -- together with our full level quick coupler system, the machine becomes a tool carrier and can replace a lot of other machines, not only performing other task within digging, they can do other things and replaces kits there or having pallet forks and doing these types of things.

We're also having a good sustainability part in it, both that we use less fuel and less wear and tear and so on, on it, for the environment, but also having a safety part in it. It's both good for the person inside the cabin, but also people around the cabin then. And the products we offer to make this change then is tiltrotators, quick couplers and tools, both hydraulic and mechanical tools, but also then control systems that are more software-based and also safety systems to reduce the human errors problems with this. And as I said, we already have done it once in the Nordic, changed the way of digging and now we are aiming to change the way of digging globally then. And this way that we did in Nordic is how we will create the long-term value for our customers and shareholders then.

And as you can see on this graph, we have a proven track record of value creation over time. Future growth will not always follow a clear path, but we have the products, we have the people and we have the means to succeed over time. If looking on the history of engcon, we have grown approximately 16% in average over the last 10 years. If looking since 2014 to 2022, we have grown 4x during that 8 years period, and we can do it again. And we also have done it with good profit. So this is again how we will create a long-term value for our customers and shareholders. As you saw on the last slide, we have a lot of benefits and advantage, and we have done it before in the Nordics, and we can do it again globally. We'd also like to announce that we are now celebrating 1 year as a listed company. It has been an amazing journey, and we have learned a lot during that time.

Now we will take you through the report for the second quarter of 2023, and we'll start with the highlights. Despite lower net sales, we have good profitability and strong cash flow. The macroeconomic uncertainties have decreased the end customers' willingness to invest in new excavators, which can be seen in the lower order intake then. Dealers have also been stocking up from -- on earlier quarters then. And this has further negative impact on the order intake and also some of the net sales then, especially in the Nordics then.

On the positive side, we are very happy about what we have achieved together with Caterpillar. Our next-generation control system are compatible with Cat's next generation of excavators. We consider this as an important milestone that the world-leading excavator manufacturer have now chosen to follow our strategy with an open solution. By this open solution integration, then customers will benefit from all the advantage in the excavator and all the advantage with an engcon system, so they can get the best, both from the machine and the best from the tiltrotator. And the good thing, this is something we've been working with all the OEMs about this solution and now Cat have joined us and Volvo have joined us and other OEMs is joining us also. So that's a really big step for us and important long-term for us.

We also have signed a lease contract for a logistics hub in the U.S., an important step to meet the future demand on this growing key market. I'll also give you a short update regarding the Rototilt lawsuit. The first level dismissed Rototilt's lawsuit against engcon. Rototilt have appealed to the higher level, and we're waiting to see if they will pick it up on that level or not, more information probably coming in Q3 regarding that. We also see a gradual improvement of order intake in some countries on the European market that we'll come back to a little bit more later on.

Looking into the Q2 figures then. We can see that we're having -- the organic net sales is down 10%, that we'll also talk a little bit more about later on. Organic order intake is down 38%. That's been expected that we will have a tough time in the Nordics. But Europe is a little bit more disappointing that we see this dip there. We'll talk more about that also when we dig in more to the -- each market then. We have a gross margin level of 41%. It depends a lot on the lower volume and still fixed production costs, and we also have a less favorable product mix, where we've been selling a little bit more to the OEMs and OEMs have a little bit lower gross margin for us, but we don't have the cost further down. So in that way, still good contribution to the EBIT margin. And speaking about the EBIT margin then, we are having it on 20% for the quarter. That's stronger than last year and in line with our financial targets. And our ROCE is in -- on an impressive level, 73%.

Let's move over then to business and financial development, and we're starting up with the net sales and order intake then. Again, we need to remind ourselves that last years have been anything but normal. But with that said, start looking at Q2 2023 then and we're starting with the net sales, it's SEK 508 million. It's a decrease of 10%, as I mentioned earlier. We also have delivered most of the strong order book that we have entered 2023 with. With a shorter order book, the net sales in the coming quarters will be dependent on our ability to sell. Short order book is the normal situation, frankly, and have been that for -- until the pandemic more or less started. So we are used to it. But our future ability to guide regarding net sales is more limited now then.

The order intake is SEK 341 million in the quarter, a decrease of 38%. The macroeconomic uncertainties have decreased the end customers' willingness to invest and the buying process is getting longer and longer in that way, and they're waiting a little bit more. Also, the supply chain issues during '21 and '22 have contributed to -- that our dealers have stocked up, and this affects the order intake negative since the current demand for tiltrotators is taken from dealer stock then. As I mentioned, we've also seen, throughout the second quarter, signs of improvements from some countries in the European markets.

So now we'll drill down more to the each region then, and we'll start with the Nordics. In the second quarter, we saw a decline in both order intake and net sales. And here we can see that the Nordic construction sector is at standstill and a few new projects have started. Dealers are holding stock and sell from that. And that's the main reason for -- we are expected on the order intake to follow more the machine sales, but that we are dropping a little bit more than the machine sales is mainly because that the dealers are holding stock and not refilling yet.

European region, we see a flat development of net sales and a decline in order intake. The decline in order intake has been a disappointment for us. The markets have reacted much stronger to the macroeconomic situation than what we expected. The pattern reminds a little bit of the Nordic where dealers have been having stock that they've been selling off. But I think the main key is that we see the extended buying process due to the macroeconomic situation where they need to evaluate the risk of trying something new and investing into that. But we see that there have been coming some clear positive signs, that we'll talk a little bit more about also later on in some countries in Europe then.

Americas, we have a strong net sales development, but flat order intake. So really strong net sales, 100% up, and that's really good for us. We think and believe that the flat order intake is a little bit because that we are much stronger towards the smaller excavators in U.S., especially. With smaller excavators, we mean up to 9, 10 metric tons. And those [ 9 ] metric tons machines are a lot for landscaping and housebuilding. And that have been hit much harder by the higher interest rate and the macroeconomic situation in the U.S., as Volvo also mentioned in their report then. And we've also been more dependent marketing-wise since our influencers, the majority of them are landscapers or within housebuilding. So this is something we also need to work more on marketing-wise, showing more towards other segments and working harder towards those segments to get in there deeper into them.

Asia-Oceania, growth in net sales, but decreasing order intake. The high interest rates and lower birth rates in Korea, where the birth rates are around [ 0.84 ], and the focus there on that. Within one generation, they will have half the population have made the housing projects and housing markets in Korea more or less collapsing and that has slowed down a lot of our Asian markets or growth there. Oceania started the year really good but has slowed down right now. The good thing with Oceania is that we're not that dependent on the railroad as it was before. We've been managed to work into the civil side, and we have a little bit similar case that we need to do in the Americas then, getting into more segments regarding that.

If we're looking still on each market, but year-to-date on each region then, we still see that the macroeconomic situation have created uncertainties that have made people less willing to invest and taking risk in trying something new then. But we think the period gives a fair view of the net sales where we have a record level of net sales on SEK 1.2 billion, and we show a higher level on organic growth on 17% for the period then. And here, all the markets, except the Nordics, show an impressive increase versus last year.

Then if we look in then a little bit on net sales split by region for year-to-date. If we're looking how -- in the Nordics, we were on 60% last year and now on 46%. We can see the European market have grown from 27% to 33%, and Americas from -- impressive from 7% to 14%, and Asia-Oceania from 6% to 7%. And here, we need to remember that this have been on a growing market, we have been growing with 17% during this period and made this change. So our growing market is positive on the net sales, less dependent on the Nordic markets, that's really good and important for the future. So we see positive on that.

We need to take a little bit looking ahead, we think that the order intake have reached the bottom, and I will come back to that a little bit more. As we see the end customers have adjusted to the new normal, the willingness to invest will gradually increase and the dealers will need to refill their stocks and that will increase the order intake. This will not happen overnight. The order intake will gradually increase.

To conclude, why we think we have reached the bottom regarding the order intake. We see that machine OEMs, they assume or estimate to sell the same number of machines. That means they will come out with lot of more machines still in the Nordics and the stock with the dealers are starting to getting empty, and that means that they will need to reorder from us to sell to the new machines that will come here into the Nordics. And we also have seen these signs -- positive signs from European market already. But we've been having a declining order intake for a couple of quarters in a row. So it's, of course, from a lower level that we see these positive signs then.

I will now hand over to Jens that will guide us through our financial numbers then.

[Jens Blom, executive]

Thank you, Krister. We start with EBIT and EBIT margin. The EBIT improved by 5% from SEK 99 million to SEK 104 million. And we have a strong EBIT level despite a slight lower gross margin. It's the third-best in the company's history. So it's really a good performance.

Then we're going to turn to a little bit on the -- look on net profit and loss. We have a net sales, as Krister mentioned, SEK 534 million compared to SEK 508 million this quarter. We have a gross margin on 40.6% compared to 42.5%. And if you look at the rolling 12 months, we are on a gross margin on 43.9%. If we look a little bit further down, we have the R&D expenses on SEK 12 million compared to SEK 8 million. And we have also R&D reported in the balance sheet as an investment on SEK 15 million compared to SEK 16 million last year. And the expenses is mainly due to our third-generation tiltrotator. And the result is also affected by expenses for our Group Business System by SEK 9 million compared to SEK 6 million last year. And if we look down on the bottom row, we have an EBIT margin pre-IPO on almost 21% compared to 20.8% last year. And on the rolling 12 months, we are on a margin on 24.5%.

Then we're going to turn to look a little bit on net working capital and the cash flow. It's notable that we have a lower net working capital as part of net sales, 23% compared to 32%. We have -- and that's mainly due to reduce of the accounts receivable. The high activity at the end of Q1 provide a strong cash flow in the second quarter. We have an operating cash flow of SEK 277 million compared to SEK 92 million. During the quarter, we had a dividend on SEK 74 million, and we have reduced the overdraft facilities with approximately SEK 170 million.

And then we're going to turn to a look little bit on return on capital employed. The number is 37% (sic) [ 73% ]. Our high profitability combined with the efficient handling of the capital in our production facilities give this really good number. And this is a solid foundation to meet the upcoming quarters.

And with that said, I will hand over to Krister, who will summarize the second quarter, and he will also give us some outlook and he then will take us through the financial targets.

[Krister Blomgren, executive]

Thank you, Jens. We will look on our financial targets year-to-date, and we have 4 financial targets then. We have the growth, where the goal is to exceed the growth in existing markets through organic growth. Since we don't have the competitors within [ the stated ] market, they are not listed. We cannot compare to them. Then we compare to the market report from [ PwC ] that says the growth will be 19% over a business cycle. Our growth year-to-date is 17%.

And if you're looking on the target profitability, the target is to have the EBIT margin in excess of 20% measured over a business cycle. And there, we are on 25% on year-to-date on the EBIT margin.

Capital efficiency. Here, the target is that the ROCE to exceed 40% measured over a business cycle. Here we are at the impressive level of 73%.

Capital structure, here's the target to be -- the equity-to-asset ratio to be above 35%. And here we are on 55%. So exceeding the targets on 3 out of 4 then, but we're still pretty good on the growth path right there.

Then we're moving over, and I will summarize. And we have a really good result and a strong cash flow in the quarter. And the strong cash flow is mainly coming then from accounts receivables that we've been collecting in. And here, the finance department and sales [ company ] has been doing a really good job by getting that in. But we also have reduced our stock a little bit. But here, we have more to do. So hopefully, we will keep a strong cash flow for the coming quarters. We show a record high net sales and profitability in the period. I would like to say thank you to all the employees for a fantastic work to achieve this during this period then.

We also continue to have a high activity level with exhibitions in Q2. And the exhibitions in Q2 have been -- among a few of them is Netherlands, TKD. And that was a really good show for us with a lot of units out there in different booths and we had a lot of people into our booth. And we can see a lot of more activities after that show also with a higher order intake in Netherlands and Benelux then. And U.K., we had Hillhead also in Q2, also a similar good show with a lot of interest in our booth, and we also see a much higher activity afterwards with a better order intake after that. And we will also continue with the exhibitions because this is important for us to meet the end customer in that way and show the benefits with our product.

And in Q3, we'll have more shows, but I will mention one that we'll have in the U.S., Utility Expo in Kentucky and the Utility Expo is then good for us because that's within a different segment where you work a lot more with pipes, water pipes, gas pipes, different type of maintenance work and so on. And that's -- since we need to come into different segments in the U.S., that's really good for us to have a show where we can meet these types of customers, but it's also important for the future infrastructure work in the U.S. will be a lot regarding water pipes, gas pipes, and there will also be important infrastructure work coming up in Europe regarding that water pipes then. So it's really important for us to have that communication and dialogue with end customers. And we will also further increase our dialogue with end customers and other stakeholders to highlight the benefits of our products that also apply in economic downturn.

Then we will also finish up. Here, like I talked about in the last or like I communicated in our last report, to me, it's clear that the case for our tiltrotator system is stronger than ever. When inflation and interest rates are high, the positive impact on our end customers' profitability is clear with increased productivity, cost savings on fuel and wear and tear, the flexibility to place other machines that actually can generate the positive cash flow for our end customer and all the sustainability advantage for the environment and safety we have. All these benefits, we need to communicate them and we need to communicate these to all the stakeholders and adjust our message depending on to whom we communicate them.

For instance, like when we're talking to end customers, it's the profitability and the flexibility and that we can help them reduce the need of labor and do other type of cost savings, as I mentioned, regarding wear and tear and gas. When we're talking to the OEMs and OEDs, we have been talking about the electrification and automation, but also that the machine can become a tool carrier. And with that, we fit with the tiltrotator, and with the electrification and automation, we fit together with our next-generation tiltrotator then. And with the OEDs, they know that they can earn more money on selling the full engcon system to add to the excavator then.

And to these 2 stakeholders, we've been pretty good on communicating about the benefits and so on. What we can improve and what we need to improve to speed up the process then and getting out all these advantage or benefits we have is that we need to talk more to like construction companies like Skanska and [ SISY ] and so on. But there is more importance about the sustainability environmental part and safety because they don't want to have an accident on their sites. And if we can speed up the process, we talked about that they will normally step in when we come into the tipping point. But we can reach or push them to step in earlier and try to get their subcontractors to have a tiltrotator on their sites that will help us also push and get more sales then.

Another stakeholder that we need to address more is the legislation and regulation and these organizations like the unions in the U.S. and so on. Here, we can talk about the sustainability part, but safety will be a really important part for their workers and for the people and so on. And also, we -- regarding to the unions we can talk about, we can prolong their members' careers within the industry because we make their work easier. They don't need to run in and out of machine that many times during the day. They don't need to be out there with a shovel and so on. So these are the important things that we increase these type of work and talk more and communicate more with all these 4 stakeholders, and we can improve and do a better job also with end customers and OEMs and OEDs that we already have talked to.

But with all these benefits and need of change within the construction industry and with still 98% market penetration left, the tiltrotator market will be on a growth journey for many years, and we have a proven record of creating value for our customers and shareholders. We will change the world of digging.

That was everything from us. We will now open up for questions that can be asked in the telephone conference. Operator, please go ahead with the first question.

[Operator]

[Operator Instructions] The next question comes from Agnieszka Vilela from Nordea.

[Agnieszka Vilela, analyst]

I have a couple of questions. Maybe starting with the dynamics between orders and sales. I would like to understand it a bit better. So basically, you had orders of SEK 340 million in the quarter and sales of more than SEK 500 million. So does it mean that you still use the backlog from the previous quarter's orders? And also how much of the backlog is left? And should we expect the sales in the coming quarters to just reflect the order intake during the same quarter or how should we think about it?

[Krister Blomgren, executive]

That's a little bit what we tried to explain there. We see it that we have used up a lot of our order book, as mentioned. But of course, we still have an order book but much, much smaller and compared to what we had when we started the year. So we -- it will be much more important how we sell in each quarter. That would be more reflecting the net sales in the future to come then.

[Agnieszka Vilela, analyst]

And just on the delivery times, if you could remind us from order to delivery right now, how long is it?

[Krister Blomgren, executive]

Now we're coming into vacation time then. But normally, right now, we are back to where we want to be. If it's a standard product, it is 2 to 4 weeks maximum for us then to be able to deliver that. Of course, then if you are ordering something to the countries far away, where it's longer delivery time, it can be different, but we're having stock also both in Americas and Asia-Oceania.

[Agnieszka Vilela, analyst]

Perfect. And then just on your comments about orders possibly hitting the bottom in Q2, could you elaborate on what gives you the confidence in this?

[Krister Blomgren, executive]

Those signs that we see on markets in Europe, there are pretty strong signs for the -- not just a few weeks, there have been many weeks, we see that we are higher than last year on those markets, and we can see that we are -- in the Nordics, we see -- if you're looking on Volvo and we check their reports, they're saying that the estimate is still that we will be able to sell the same number of machines for 2023, and we're looking how many units we've been getting out and how it is looking for them. We know that the stock needs are almost empty for the most of the dealers that we have then in the Nordics. That means that the need for the future machine sales need to order from us, that are tiltrotator manufacturers. And we know that we're having a high market share. So a large portion of that should come from us then.

[Agnieszka Vilela, analyst]

And then just a follow-up on the signs that you see in Europe. If we look at your order intake for the full of the quarter, it was still down by 31%. So the signs, if you could be a bit more specific in what kind of -- in what countries do you see that? And yes, how they kind of manifest themselves?

[Krister Blomgren, executive]

The reason for the quarter being so much lower is that we were a little bit [ friendly ] since we made a fast change of price in Q2 there, if you remember, in 2022. And they could order for 2 to 3 weeks into April, and there we got a lot of orders coming in that. So we had stocking up or this type of effect in the -- early in the quarter. So if we take it from May and further on, then we see the clear signs that we are having a higher order intake. And I mentioned 2 of those regions with -- that had exhibitions and we could clearly see clear signs from that also, the bigger increase in order intake after that. We also have the Dig Tour in France that we also can see good signs after that.

[Agnieszka Vilela, analyst]

All right. And I have 2 more, if I may. Just somewhat slower and disappointing to your order intake in the early days market, Asia, and the margin low in Americas. Do you think that, given the kind of macroeconomic concerns, that the adoption rate in these markets will be slower than previously expected?

[Krister Blomgren, executive]

That's probably the billion-dollar question then. But we see that at least they need to -- we need to find a platform where they know what are the interest rates. How much is that? Then they can make a calculation from that. Now when we still have inflation, and we still have the central banks talking about increasing interest rates, people get hesitant and want to wait to see what is it, how can I make my calculations, what I need to have in my -- when I offer my price to the customers. They need to have all the facts with them before they make a change on it. So I think when they will stabilize a little bit, our customer will find a way of making this. They have adjusted now for the higher gas price or fuel price and they will make an adjustment for this higher interest rate and so on. And that will be the same thing, hopefully, then with the housebuilding because we're having a lot of needs of that in the Western world and so on.

So that's why I'm saying, it will be gradually because everybody will not come to this conclusion at the same time that they feel safe and can make this calculation, but it will be gradually stepped during this. And I still believe that we are a good product in a downturn also because we can make everything much more efficient. You can reduce need of labor, reduce the need of machines. And that to me is key things that you actually can make sure that you will be able to offer a good price and still make money on that and have a job for you and your employees then. But we get better on that message.

[Agnieszka Vilela, analyst]

Yes. Yes. Perfect. And then the last one for me. Just on prices, I mean, you have hiked prices quite considerably in the past years, really. So now with orders momentum weakening somewhat, do you see any pricing pressure from either your customers or your competitors?

[Krister Blomgren, executive]

We see on the mechanical tools, there are, of course, where we need to look in a little bit deeper to it because we can see that the steel prices haven't been rising in this [ tier or in the end ] here, more or less going down. So that's where I think we need to look into it a little bit more on the pricing part then.

[Agnieszka Vilela, analyst]

And on the tiltrotator specifically?

[Krister Blomgren, executive]

I think we don't see really the price pressure there. There are fewer competitors, of course, but it's also getting more and more electronics into it. And so I think it's absolutely less price pressure there. There, I think we still have the pricing power. It's more on the mechanical tools where you're having local competitors in a totally different way and so on. But on the tiltrotator, it's more -- we are 4 or 5 global players that are running it. And as I said before, then I think everybody needs to be on this price level more or less.

[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]

Okay. 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 trying to help you. Thank you for listening in today, and we hope to see you all soon again. Thank you.