Engcon AB

STO:ENGCON B

Earnings Call Analysis

Company Navigates Growth Amid Market Shifts

Amid global market shifts, the company has executed strategic growth, achieving a 16% annual growth rate, with net sales slightly above expectations despite an 11% year-on-year decline, and stabilized order intake. The Nordics, facing cyclicality, have seen revenue decrease by 33%, whereas Europe shows robust growth with net sales up 24%, and North America boasts explosive growth at 102%. Asia-Oceania rides a mixed tide with 13% net sales increase and 38% order intake drop. Gross margin stands at 40%, marred by product mix and lower volumes. The company's EBIT is 14%, reflective of a 47% decline, stemming in part from investments and ERP costs. Yet, a strong operating cash flow and an impressive 64% ROCE position the company well for continued investment in innovation and expanding its North America footprint with a new logistics hub.

A Global Expansion with Potential for Tiltrotator Market Penetration

The management team began the earnings call by presenting an ambition to revolutionize the digging industry with their tiltrotator product. They shared a significant disparity in market penetration, where Nordic countries show a remarkable 90% adoption rate for excavators fitted with a tiltrotator, compared to a meager 2% globally. This highlights a substantial opportunity for growth as the company aims to expand its presence and increase product penetration outside of the Nordics.

Diversifying Geography to Weather the Nordic Slowdown

The company is navigating a downturn in the Nordic region, with a 16% decrease in net sales. However, resilience is shown through a record revenue achievement despite these regional challenges. Growth is attributed to strong performance in European countries, with a noted 24% increase in net sales, and an impressive 102% growth in North America, signifying the company's success in diversifying its geographical footprint and reducing dependency on its traditional Nordic market.

Financial Resilience Despite Macroeconomic Challenges

Financially, the company has exhibited robustness, with a 47% decrease in EBIT resulting in SEK 55 million, a sizeable drop from the previous year's SEK 104 million. Net sales saw a slight decline, and the gross margin reduced to 40% from the earlier 45%, impacted by factors such as product mix, lower volumes, and sales expenditure. However, cash flow remains strong, suggesting the company's ability to continue investing ambitiously in growth initiatives and global expansion.

Strategic Growth Pivots in the Americas and Europe

The company's strategic focus appears to be shifting towards the growth markets of Europe and the Americas. A new logistic hub in North Carolina points toward a deepening commitment to the North American market, which is expected to drive future growth in the region. Furthermore, the establishment of a distribution partnership in the DACH region (Germany, Austria, and Switzerland) and a substantial order from a French rental company in Q4, reflect promising developments in Europe. This suggests a bullish outlook for these markets, which are critical for the company's growth trajectory.

Conservative Expectations for Pre-ordering in Q4

The company anticipates a deviation from the previous trends of strong pre-order sales in Q4 due to smaller price increases and shorter lead times. Management expects stabilization in order intake, supported by positive growth signals in some European markets and a 28% order intake increase in the Americas. However, caution is observed due to uncertainties that might dampen dealer stockpiling activities.

Investment in Innovation and Sales to Drive Future Success

Despite facing a challenging macro environment and a decreased order intake, leadership maintains a forward-looking strategy, committing to innovation and strengthening their global sales organization. As the company witnesses recovery signals in some markets and hopes for a comeback in the Nordics with improving economic conditions, their focus remains on executing strategies to capitalize on growth markets, enhance global penetration, and manage operational costs effectively.

Earnings Call Transcript 2023-Q3

[Krister Blomgren, executive]

Starting with our vision to change the world of digging. We will do that step by step. It will not happen overnight. We have together with our competitors, taking big steps that we'll come back to. And what do we mean we change the world of digging? In the Nordic, the penetration is approximately 90%. 90% of all the excavators have a tiltrotator on the machines in our in our range in the Nordics. In the rest of the world, the penetration is only 2%. So that means that we have a lot left to do, up to 90%, where it's more or less fully penetrated. And that means that we have a huge potential to grow in Europe, North America and the countries we have picked in Asia and Oceania, all these countries are stable, democratic countries.Why would this change come then? What is it that pushing this change then? It's an increased demand on sustainability focused especially within European Union. We also have a lack of labor in more or less the whole Western world. We also have increased cost of fuel and energy and machine prices have also been going up and also the material prices have increased. All these things will make the industry look for increased productivity. And how will we lead the change then? We can offer 25% increased productivity in average, reduce the need of labor not only outside the machine where the man would shovel and so on, but also since we with the tiltrotator can reduce the need of other machines with 2.2 in average. There will also be less people operating other machines in that way.There will also be less fuel or energy per project that will give less CO2, that will be better for the environment. And I will also talk about that. It's a sustainability focus. We also have increased safety for the workers not only outside, but also for the operator inside the cabin. We have during the last ten years been taking some important steps toward our vision to change the world of digging. We have had good growth in our growth markets; Europe, Americas and Asia-Oceania. And if we're taking a look at the donut charts right there, we can see that 2012, the Nordics are the yellow part. The donut is more or less totally yellow. We have a small segment there that is Europe, it's the black part and the gray area is Asia-Oceania. Americas was not even in that. It was less than 0.5%.And if you then move on to 2022, you can see that the yellow part is much smaller but still dominant, more than 50% of the share of the revenue. Europe have grown a lot. We are over 30%. And now we also can see Americas there on 8% and Asia-Oceania have also grown. And then if you're only moving nine months forward, how it looks then, you can see that the Nordic is less than 50%. Europe is still a big piece right there, but Americas have been growing more or less twice the size from just nine months ago and also Asia-Oceania have been growing, and all this been happening during when the markets have been growing.So, we can see the change we already have done, where we've been moving from being more or less only in the Nordics to be in Europe and now also in Americas and Asia and Oceania and we will take a further look on that. As I showed on the donut chart, we have moved from the dependency on the Nordic market and I will now show also the growth we have had during the last 10 years and we have been able to grow even through crisis. We had the Euro crisis 2011 and pandemic 2020 and now we have some type of macroeconomic or geopolitical uncertainties that are worrying us. But I know that we will ride this one out and be even stronger.After that, that has been the way we have done it before and we'll do it again. But we also have a growth pace on these 10 last years on 16% in average. It will actually be easier for us to have a higher pace the upcoming years when the Nordics part is getting smaller and smaller. And the Nordics will also come back to the same level when the economy turns around again. Then we're moving over to some highlights in the quarter.As I mentioned, the Nordic market is cyclic and that's why it's been so important for us to grow outside the Nordics to reduce that risk of being cyclic. We can also see stabilization on the order intake in the Nordic and Europe, both in year-on-year comparison, but also comparing to the last quarters in both regions and that's a good sign for us. And also, really positive that we still can deliver out close to 100% more for the third quarter in a row in North America. This big increase of deliveries have caused us some growing pains of course.Been a lot of focus to install all these new units and support all the new customers in North America. And in that way, we lost a little bit of sales focus. And that's why it's really positive to see that we have a 28% increase in order intake in this quarter and we're getting back on track regarding our sales there. We see that there will be a lot of infrastructure and maintenance projects coming years in US. So that's why it was important for us to be at the Utility Expo in Kentucky where it was a lot of maintenance and infrastructure machines and so on there.And then another topic that's been up a couple of times already is our ERP project, something that we had invested a lot of time and money in and almost everyone in the organization have been involved in it in somehow. And this will be really, really good for us when it's implemented. But to be honest, it have been a distraction and been taking a lot of time from really good people that we can use to grow our business instead in future. And our go-live date is set to be in Q4 regarding the ERP project.Then moving over to KPIs for the third quarter. Here we can see the net sales decrease 11% on a year-to-year basis. That's actually slightly better than what we expected from looking on our forecast and earlier quarters order intake. We can also see a small growth on order intake, 2%. The order intake have stabilized on a lower level, both compared to last quarter's and last year's. The gross margin is 40% and it's negatively impacted by low volumes, campaigns and less favorable product mix. This is something that we will need to work more on during the coming quarters to improve our gross margin level. The EBIT is 14% in the quarter. The EBIT margin is of course, affected by the gross margin, but also, from our investments in our sales force in our new markets then where we're having a higher sales cost compared to last year, but also the ERP cost then of course. Our ROCE is on an impressive level, 64%.Now, we'll move over, talk a little bit more financial where Me and Jens will guide you through. But I will start and I will talk more about break down the net sales and order intake over the regions for the quarter to start with. And I start with the Nordics. It's a decline of 33% net sales. Due to the high penetration and market share, this is the most cyclic market that we have. We see a continued weak demand in the house building and the general macro environment makes the end customers still hesitant to invest. But we see signs of increased demands but from lower levels then.On the positive side, the order intake increased to 9% in the Nordics from last year mainly as a result of better order intake in Norway where we now have our own subsidiary instead of the distributor that we had last year. In Norway, we also have a possibility to increase our market share since we aren't so dominant in the Norwegian market as we are in the other Nordic countries. And we also still have some penetration left in Denmark that have made them able to keep the sales up during the year then. And we have reached the bottom in the Nordic and it's only one way to go and it's up. The question is when we'll start to see the increase in the Nordic.Moving over to Europe. Here we can see a net sales decrease with 10%. The drop is mainly from the OEM sales that we had last year. Otherwise it's a little bit similar. Like in the Nordic, house building is still weak, not as weak as in the Nordics, but end customer hesitant due to the macro development in general then. If looking into the order intake, the development is flat, which actually is positive after 3 consecutive quarters behind previous years. The signals from the market is a little bit mixed with good order intake from some countries and lower in other countries. However, as we communicated earlier, we see some signals of improvements in Europe with a bigger order in France to a rental company in Q4 and a new distributor agreement in DACH regions. DACH is Germany, Austria and Switzerland and I will come back to these and talk more about them later in the presentation.Moving over to Americas, show a growth both on terms of revenue and order intake. Net sales show strong growth with 93% versus last year in the quarter. The order intake increased to 28%, as I mentioned earlier. It is very important to get our focus back on sales and that we got it back as fast as we did then. We also see positive signals from the OEMs, including Volvo that just reported a strong increase in Q3 in order intake in North America. So, the market is still warm. We still see a slowdown in house building and landscaping, even though it's not even close to what we see in Europe. But it's going down a little bit and that have been an important segment for us.The good thing is that the infrastructure projects have started and a lot more projects for infrastructure and maintenance will start in beginning of 2024. For instance, infrastructure project that fits us perfectly is the fiber cable digging or fiber cable that we'll put on and will be a lot of digging for that. In Asia-Oceania, we can see 13% net sales increase and a 38% decrease of order intake. Here we can see that it's the Oceania that's doing better and Asia having a little bit weaker year. You also see that financing is a challenge for our customers, especially in Korea.If we try to summarize the quarter a little bit then, all in all, we can say that the Nordics depend on the macro environment and it will come back. Our development in the near and long-term mostly will be relying on the growth markets, Europe and Americas then and that's positive. That it's up to us then. In Europe and Americas we have so much penetration left, so even if the machine sales goes down, we still can grow on those markets.We moving over to year-to-date on the same thing net sales and order intake. And here we can highlight that we have a record revenue for this period even if the Nordics have a drop on 16% on the net sales. This shows that we can manage to grow even if the Nordic drops. We have had big drops in Sweden and Finland in net sales. Norway and Denmark haven't dropped in net sales because of the reasons I mentioned earlier with the possibility to take market share in Norway and Denmark still had some penetration left.In Europe, we show growth in net sales in more or less all countries and strong growth in Benelux, UK and Ireland. Our growth in Europe on net sales so far this year is 24%. In Americas, we're showing strong growth in North America and that's because we're not active in South America in that way. But here the growth is really strong, 102% to year-to-date. In Asia-Oceania, it's Australia that shows the good growth and Korea is decreasing. The growth is still 37% though in Asia-Oceania even though we're having [ strugglers ] in Asia.If we're moving over to the order intake, we can see that it's stabilized on a lower level. We believe that we have reached the bottom both in Europe and in the Nordics. And to show that we have stabilized, if we then compare last year and the last quarter, we can see the order intake is stabilized. If we take a look on Q3, 2022, where we're having SEK 324 million in order intake and also then looking on Q1 and Q2 and Q3, 2023. In Q1, we had SEK 408 million, Q2, SEK 341 million and now we have SEK 347 million in Q3. So, you see it's stabilized little bit on a lower level with a small positive sign in the last quarter then that will hopefully continue then.But what's important with this picture is that we shouldn't anticipate the big pre-ordering effect in Q4 like the last two years. If you're looking in the Q4, 2021, we have an order intake on SEK 774 million and Q4 last year 2022, SEK 553 million. They were more exceptional because of the high price increase and long lead times we had back then. For 2024, we haven't increased the price that much. It's short lead times and a lot of macro uncertainties in work. So, our dealers will wait as long as possible to place the orders before they move on regarding that.Now, Jens will guide you through our financial numbers a little bit more closely. So, I hand it over to you, Jens.

[Jens Blom, executive]

Thank you, Krister. Let's start with the EBIT in the quarter. It's down by 47% and it's up to SEK 55 million compared to SEK 104 million last year. And the margin is 14% compared to 25%. And as we mentioned earlier, it's negatively affected from less favorable product mix, lower volumes and sales expenditure. Then we're going to dig a little more deeper in the profit and loss. We can see the net sales SEK 391 million compared to SEK 416 million. The gross margin is 40% compared to 45%. On the rolling 12 months we had gross margin on 43%.If you look further down, it's notable that we are continuing to invest in the global sales organization and with a logistic hub in the US. More notable is that we also have affected by expenses for the ERP system on SEK 7 million compared to SEK 6 million last year. This ends up at SEK 55 million compared to SEK 105 million pre-IPO. On rolling 12-month we are ending up at SEK 478 million with a margin of 22%.And we're going to look at the cash flow. The operating cash flow came in at SEK 108 million compared to SEK 63 million last year, the second best quarter ever. We have lower capital tied up and the capital employed as percentage of net sales is 20% compared to 31% last year. On the rolling 12-month, we are 33%. The main reason is that we have reduced the level of inventories and accounts receivable. Then I'm going to turn to the next. We look on the total on the return on capital employed. On rolling 12-month ends up at 64%, which is due to an efficient manage of capital and good profitability gives us a really strong growth. This combined with a strong cash flow, a solid equity to asset ratio give us possibility to keep on investing and follow our business plan.With that said, I will hand over to Krister and will take us through the financial targets and summarize the quarter.

[Krister Blomgren, executive]

Thank you very much, Jens. I will take you through the targets here then. That's year-to-date numbers by the way. And if we're looking into the growth target in a challenging year we show growth on 8%. Our goal is to be higher than the market and that's to compare to our competitors then, so we don't know exactly where they are on it. But over a business cycle, our target is 19% in average then. Profitability, we are on a strong EBIT margin, 22% and our target is to be over 20% over a business cycle. Capital efficiency, ROCE is extremely strong, 64% compared to the target 40% over a business cycle. Capital structure, equity-to-asset ratio is 58% compared to our target 35%. Looking on the targets we can see that we are above for sure on 3 of them and then we need to wait for the answers on the growth target to see where the market is and we can see our competitors' numbers.Then we'll go to the last slide where we're going to try to summarize and take a little bit forward views on it also. And as we talked about it, net sales are slightly above our expectations compared to the earlier quarters on order intake and forecasts. We are at the low level now regarding order intake and believe that we are at the bottom, thanks to recovery and good growth in some countries in Europe like Netherlands and also the small increase in the quarter for the Nordics give us the comfort to believe that we have reached the bottom.Very positive order intake growth in Americas with 28% after being flat for a couple of quarters. The market is still warm and infrastructure and maintenance projects will increase and keep the market warm. We see a strong cash flow that provide us strength to execute on our strategies and our strategy is to keep investing in innovation and our sales force on growth markets. And then if we're adding up then with some news about Q4, we are increasing our efforts in the North America market by establishing a new logistic hub in North Carolina that would be our platform for future growth in North America.We have grown out our current warehouse and have to keep stock in several different places. So that's why it's important for us to get a new bigger warehouse. But also with our new logistic hub, we also have the possibility to start with some light assembling and easy machinery in the future then when we're getting even bigger volumes there in North America. And we also have some really positive news then. We are happy after signing an agreement with a distributor in the DACH region. And as I mentioned earlier, DACH is Germany, Austria and Switzerland.Our new distributor is the same people or founders behind OilQuick Germany. They have the sales channels, they have the salespeople. They also have the knowledge about how to open up the German market. They will sell our tiltrotator together with quick couplers that we don't provide to the market. engcon Germany will continue to promote and sell system engcon. We believe that this cooperation will increase the penetration in DACH and that we also will gain market share in the region.We also have one more really positive news actually we consider to be a big breakthrough in France. We received a major order from a French machine rental company in early Q4. They will equip more or less all their excavators with tiltrotators. Normally, rental fleets are the last one to adapt to this type of change since they are earning their money by renting out the machine by the hour. And then that way they don't look for increase in productivity because that will mean that we'll rent them out fewer hours. We consider this to be an important milestone and hopefully, we can look forward to more deals like this in France and Europe.As I mentioned also earlier then we should expect a smaller pre-buy effect in Q4 compared to previous years. Previous years, our customers had big incentives to pre-order like big price increase and long-lead times. Now, they don't have that and we only made a smaller price increase and the lead times are short. There was a lot of uncertainties in the world, so they will not stock up the dealers.If you're trying to summarize this with this positive happenings or news in Europe, with a new strong distributor in DACH and a big order to a rental fleet in France, we have a very positive view on the European market on long term and also in shorter term then. And the market in North America is still warm and a lot of infrastructure projects are in the pipe to keep it warm for the future also. And Europe and Americas are the most important markets for our growth and the Nordics will come back and give us an extra boost also when the economy are turning back.That was everything from me and Jens. Thank you very much for listening in. We will now open up for questions that can be asked in the telephone conference.

[Operator]

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

[Agnieszka Vilela, analyst]

So, I have a couple of questions. So, maybe just starting in terms of what you're seeing in the demands in Nordics, is there any way to quantify the destocking impact that you've seen in Q2 and Q3? And do you think that destocking is over by now?

[Krister Blomgren, executive]

No, we're having a few dealers that still having stock, especially down in the Nordics. And in Europe, we don't have dealers with stock anymore, but a few dealers having but they're running out of it. Big reason for that have been also that machine manufacturers have been delayed with a lot of machines. So hopefully, they will start getting running out of their stock that they're having. But it's not the same problem as it was before. It's definitely getting less and less problem with the stock.

[Agnieszka Vilela, analyst]

And then maybe just on your comments on Q4, you don't expect the pre-buy, but how should we think about it? On a sequential basis, you also say that you think the kind of order lever in Q3 was a bottom, if I interpret your message correctly. So, the point here is that there will not be a pre-buying but order intake will be just reflecting the kind of underlying demand and hopefully, the demand is getting a bit more stable. Is that the correct interpretation?

[Krister Blomgren, executive]

Yeah, not that it will not be no pre-buying, but we said it will be a smaller pre-buying. There will always be some that will pre-buy a little bit, but not in the same way as it was like 2021 or last year. But it will be some type of pre-buying that's more or less always some type of pre-buying, but not in the big numbers as it was 2 years before. And we see it's more stabilized and we see also, as I mentioned, we see some countries in Europe where we've been having good growth in the order intake. And so we have a little bit mixed signals there. We also have high hopes or expectations on our cooperation with our new distributor in DACH and so on. But as I said, more stabilized and I guess that's more the same as for Q4 and Q1 in that way that we don't expect it to sprint away and being much, much higher, but stable growth hopefully.

[Agnieszka Vilela, analyst]

And then maybe just referring to the deals that you signed with the DACH distributor and the French rental company, is there any way you could quantify that for us? How much will that add in terms of sales?

[Krister Blomgren, executive]

With the DACH distributor, we -- they haven't placed any orders yet, but we have signed the agreement. But they're having of course, they are positive and we believe that they will help us a lot in DACH region and -- I mean, they were working with OilQuick, so they know our tiltrotator already from that. So, there will not be a big learning curve for them or anything like that. So, it's been a discussion we've been having for a long time that we have been able to finalize now. So with them, I can't give you anything right now, but we believe that it will help us a lot.Regarding the rental fleet, it is a bigger order, but it's not like a huge order. But for us, it's like a milestone, as I said, where we're coming into the rental fleets and they equipped all their machines with a tiltrotator. So, they were actually like buying more tiltrotators than they were buying quick couplers because they were putting on older machines that they've been having and bought quick couplers from us earlier on. So in that way it's positive, but it's not the biggest rental company in the company in France.

[Agnieszka Vilela, analyst]

And then I have just one more question, really on your cost base. I notice that the number of employees still increased in Q3 in both the Q-on-Q and year-on-year terms, but obviously, your sales were quite significantly down. So, what's your plan when it comes to adjusting the cost base? And maybe if you could provide us a bit more detail how you think about the kind of production employees and sales and administration employees?

[Krister Blomgren, executive]

As I have mentioned also then on some investor meetings and before that, we see that we're also having the ERP that also are taking a lot of admin people and so on. Sales, we definitely want to keep where we are and we need to of course, look into the production and try to find the right size for it there. But it's also some people are hard to replace, like we're having some CNC and so on that we don't want to lose and so on. So, it's in both way of looking at it, but hopefully, we see increasing order intake and in that way we get more and more stuff to do.

[Operator]

There are no more questions at this time. So, I hand the conference back to the speakers for any written questions and closing comments.

[Krister Blomgren, executive]

Okay. Thank you, everybody then for listening in, and looking forward to meet you again after the Q4 report and have a great Friday and a great weekend from me and Jens. Good-bye.

[Jens Blom, executive]

Good-bye.