Hexpol AB

STO:HPOL B

Earnings Call Transcript 2021-Q2

[Operator]

Hello, and welcome to the HEXPOL Audiocast and Teleconference Q2 2021. [Operator Instructions] I am pleased to present CEO, Georg Brunstam Brunstam; and CFO, Peter Rosén. Please go ahead with your meeting.

[Peter Rosén, Deputy CEO, CFO & IR Manager]

Thank you. Welcome to presentation of our results for the second quarter of 2021. Presenting today are Georg Brunstam, our CEO; and myself, Peter Rosén, CFO. The agenda for today is to first give you a business update then to go through the financials in more detail and also the focus areas for this year. We will finish with a Q&A then. And with that, I hand over to Georg, who will take you through the first part of the agenda.

[Georg Brunstam, President & CEO]

Thank you, Peter. We are happy to announce and present a very good quarter. In fact, it's a very good quarter given the challenges we are facing in distribution and supply chain. We have strong organic sales actually 70% and with, of course, low comparables from Q2 last year. We have growth in all regions despite quite a lot of global supply chain disturbances. We have continued with a lower cost base we established and this has given us the best quarterly result ever so far. We see the supply chain issues and semiconductor shortages especially affecting our Tier 1 customers where they see the OEMs affecting. We see it in a different pattern or maybe in no pattern at all. It is -- it varies a lot from Tier 1s and OEMs globally, both different OEMs and in different countries. So we see it affecting actually in all markets. We have handled our own issues, and we also handle the flexibility issues and the cost issues connected to the flexibility, which we are having to prove every day in a good way. We have an experienced and a very competent team who are very good, I must say, in handling all these flexibilities because you can imagine that a lot of the new planning and different planning and change planning in order to service the customers with these disturbances. But all in all, we have managed that in a very good way. We have handled it in a very good way. And I think we have handled it in a better way than most of the people in the industry -- in our industry, I should say. We feel that we have been able to gain some traction with many customers here. We have strong sales growth, and this is hit by the negative FX effects by more than SEK 400 million and that fixed FX rate, we will be at SEK 4.4 billion at the moment. The COVID situation is still there, although, it's manageable everywhere and then we are open pit. We have some local outbreaks from time to time, but we do handle them. And we do have a decentralized organization that really helps some works in this circumstances. And of course, vaccination is increasing everywhere and it helps to stabilize. We are tough and tight on our cost control in order to keep the savings we've done in our savings programs. And then that has been the case in the quarter as well. And as I said, this was the best quarterly result ever so far. And we actually had a profit of SEK 728 million versus SEK 209 million last year. And the margin is kept on the high about 18.2% level, and we have been over the 18% now for a number of quarters in a row. We feel that the organization is executing on the updated strategy, which we made some time ago, and we presented at the Capital Markets Day recently. And that is including an increased customer focus. We see that in both business areas, both in HEXPOL Compounding and in HEXPOL Engineered Products. And we see a recovery, and we see strong sales in all regions. We see automotive at a decent good level in all regions, but of course, disturbances from semiconductor shorties. And we hear from the OEMs that the sales is good and that inventory is at the lower level. So the EBIT improvement is driven by good sales at a lower cost base. And that is also the case in HEXPOL Engineered Products where we had a very good quarter with increased sales and increased operating profit. The M&A focus is strong. We have, during the quarter, integrated the VICOM business, which we recently acquired. It's a very good complement to us in the wire and cable compound. The wire and cable compounding business is driven by the electrification. So that is a good acquisition for us, and the integration goes as well. We have also recently got the final approval from the authorities on the Unica acquisition, which is a leading Rubber Compounding in the south of Europe with 1 plant in Spain. And we just started the integration, and we see very positive signs with the people we have brought on.We have shown this picture on Page 6 before, I just want to reiterate that we do have a very strong country in the HEXPOL group. We are decentralized, but we are coordinated wherever it makes sense and then where we save money. We have experienced, we have agile and we have very competent people in our organization. And that really helps now in the turbulent supply chain base. And we have a new refreshed purpose, which is that we do create a material difference in all aspects. If we then turn to Page 7 and look at the sales development in the quarter. As Georg mentioned, we delivered a very high organic sales growth of 70% compared to last year. The acquisition of VICOM in the first quarter added another 4% of sales compared to last year. So excluding the negative FX effects that we saw, we saw a growth of 74% compared to last year in this quarter. And the organic growth is, of course, affected by the low comparables in last year. But nevertheless, it's a very strong growth, and it also represents organic growth compared to the previous quarter this year. The sales growth was partly offset then by the fairly strong negative FX effects of some SEK 405 million, resulting in reported sales of even SEK 4 billion here in the quarter. Looking at the regional development, we saw strong sales growth in all regions, although highest in Europe, followed by the Americas and then Asia. And we do see that Europe is coming back somewhat faster than the Americas. Asia may look somewhat slower than the other regions. But keep in mind that they were hit by COVID-19 already in the first quarter of last year. So their comparables are somewhat different. But overall, a very strong sales growth in all areas. And if we then move over and look at Page 9 and look at the financial overview. We delivered a very strong result and margin in the quarter despite negative effects on both sales and profits. On profit, we saw some SEK 60 million of negative FX effects. But all in all, we still delivered an operating profit of SEK 728 million and a margin of 18.2%. And the operating profit is yet again the highest that we have ever delivered in the quarter and it also represents an increase of almost 250% compared to last year. And looking at the equity asset ratio, it also remained strong in the quarter at 60%. If we then move over to the next page to Page 10, and look a little bit more on the development. We see that -- we see a sales growth of 58% compared to last year, and that includes some SEK 400 million in negative FX effects. At the same time, the operating profit increases with 250% to SEK 728 million. And the margin improves with 120% to 18.2% compared to the same period last year. And if we then move over to the next page and look a little bit at what drives the improvement in profit. We see the drivers of the improvement across the board with increased sales, improved gross margin and lower OpEx. And the increased gross margin is the result of strong volume development and relatively lower rent cost in production. The lower OpEx is the result of the cost saving programs that we launched during the first quarter last year and which were subsequently stepped up when COVID-19 hit. We started to see the lower OpEx during second quarter last year, which then improved further during third quarter last year, and we've seen -- we've been on a new and lower and stable cost level since then, even actually improving it somewhat this quarter. If we then move over and look at the development of profit and margin over time. And if we look during the development of the last 6 quarters, it's quite clear that the continuous volume development improvement, combined with the lower cost base translates into substantially higher levels of operating profit and margin. For example, in Q1 last year, we delivered an operating profit of almost SEK 600 million at a margin of 14.1%, which was seen as a fairly strong quarter. We were then fully hit by COVID-19 during the second quarter of last year when we saw volumes and sales dropping substantially. We still delivered a margin of some 8%, partly supported by the OpEx savings that we started to see during that quarter. Since then, we have delivered 4 record quarters in absolute profits and with margins around and above 18%. And this is despite the challenges we still face when it comes to COVID-19 and the further new challenges that we've seen regarding raw materials and global supply chain interruptions.If I then make some small comments. If we turn page to #13, on the business areas. I will make some comments on HEXPOL Compounding. It's, of course, a very strong quarter with organic sales growth of 74% versus last year and then a very strong profit improvement to SEK 679 million versus SEK 178 million same quarter last year. And the margin is 18.2%, a strong margin, again, and very much higher than the 7.8% corresponding quarter in 2020. The higher sales is driven by improvements in all customer segments, and we see especially strong performance in TPE and also in the relatively newly acquired Mesgo, where we now see a lot of benefits from the integration into the HEXPOL Group. A very strong quarter in those units. In the segments, we see strong recovery in all segments, but especially in quarter 2, the general industry is improving, and that's more of a mixed picture in automotive versus the previous quarter. If I then turn page to into Engineered Products on Page 14. A very good quarter for Engineered Products, sales well above last year, and that wasn't so bad hurt by the pandemic as been compounding, a big room improved -- improvement in operating profit, and a margin at 17.6%. We see overall strong performance in HEXPOL Wheels, and the wheels business is driven by the hugely increased e-commerce business where a lot of our products are going in. Okay. And if we then move over and look at the balance sheet and our working capital on Page 15. We did see a small increase year-over-year in absolute terms, while in relation to sales, working capital was on the same level as last year. The reason that we see for us relatively high working capital levels, although on the same level as previous quarter, is that we have some inventory buildup and higher accounts receivables. The inventory buildup is a conscious decision on our part, and that is based on the uncertainty currently regarding availability of raw materials. So we simply acquired when we can. The higher cash receivable is the effect of high sales during the latter part of the quarter. So we do not have any changes in the underlying payment terms with suppliers or customers. And we do expect to see working capital coming down when normality exists around us. And if we then move over and look at the cash flow on Page 16. This strong EBIT is partly offset by the temporarily higher working capital that I mentioned, but also very strong is that the level of investments continue to be below depreciation. So even though we have a growth in the working capital, we still have an operating cash flow of strong SEK 600 million in the quarter. And looking on Page 17, we can take a look and see how that affects our financial position. The net debt stands at SEK 1.9 billion at the end of the quarter. And the net debt-to-EBITDA ratio improved somewhat compared to end of last year. And this is despite that we have acquired VICOM, and it's also despite the dividend payouts. So we continue to strengthen and operate in a strong position. And also making just a short note when it comes to our funding, in June, we launched a commercial paper program to make our funding more efficient for us. It has, of course, no impact on our total funding or our banking relationships, which remain exactly the same as before. However, it is a complement for it and it's been very well received by investors, helping us to keep the cost of our funding lower than before. And by the end of June, we had some SEK 700 million outstanding in commercial papers with a duration between 2% to 4% -- or sorry, 2 to 4 months. Okay. If I then sum up the quarter, which was a good quarter, as I said. In fact, it was a very good quarter given the challenges and the disturbances in the supply chain, which we handled in a very, very good way. I'm very happy with how the organization is handling that. But that gave, of course, the best quarterly result ever. We had strong organic sales increase of 70% on the structural lower cost base. And we delivered a margin again above the 18%, in fact, 18.2%. And the COVID situation is not gone, but it's under control and it's more stable than before. So all in all, a good quarter. And in fact, a very good quarter but with some disturbance. And if I look forward and if you look at Page 20, we are still focusing on the same items as before. And we do believe that it could be a good rebound in light vehicle production. And if that happens, we are on our toes to execute on that. And we are very cautious in the health and safety of our employees, and we are on our toes to manage the volatility, which could be there. We will continue to have challenges in global supply chains and the raw material prices, which we have been handling so far in a good way, but there will be continued challenges in that. We will continue to look at our footprint, and we will be very active in the M&A as we have been recently with 2 recent acquisitions. And of course, we will run and execute our strong business model efficiently. And the increased stepped-up sustainability work will continue. Okay. And by that, we end our presentation of the second quarter and hand over to Q&A.

[Operator]

Our first question comes from the line of Douglas Lindahl of Kepler Cheuvreux.

[Douglas Lindahl, Analyst]

I wanted to start off by focusing on your cost control here, which was impressively strong in the quarter. What sort of -- can you exemplify what sort of SG&A issues you've handled and which specific costs you've taken out? And I guess you mentioned in the Annual Report that these are mostly sustainable or structural. But is it fair to assume now that if volumes come back, we should see some sort of rebound of SG&A towards H2? Those are my first questions.

[Georg Brunstam, President & CEO]

Okay. If we look at the type of savings that we've done, I would not say that there are no specific onetime savings. The savings are more or less across the board. And they should be seen as an expression for us having a very tight cost control. So we do work, I mean, last year, we launched a number of saving -- cost saving programs, including people leaving the company and some other actions as well. And we haven't -- they were completed last year. So this is more an expression of us working very hard with all the details on all cost aspects.When it comes to -- and they are structural in that sense. When it comes to eventual cost increases, when we return to a more normal situation, it's very likely that some costs will come back. For example, if we are able to travel, some of those costs will come back, but they will certainly not come back to previous levels. So they will still be below what we've seen historically.

[Douglas Lindahl, Analyst]

Okay. That's very clear. And I guess underlying do you see room to further improve on costs? I know I've asked you this before, and you said sort of no. But now that you've proven that, that's possible to see further room for?

[Georg Brunstam, President & CEO]

No. I would say again that low cost this quarter, we worked very hard to get here. I would say that no, there are -- I mean we will continue to work with a tight cost control, but to see no substantial additional savings now.

[Douglas Lindahl, Analyst]

And on the supply chain issues that you mentioned here, which has affected your growth profile somewhat. Is it possible to quantify by how much that has impacted your organic growth in the quarter or give some sort of indications?

[Georg Brunstam, President & CEO]

Yes. No, I'm sorry, I don't -- I can't do that because I mean we have fulfilled what we have taken on. But how much more could we have taken on, how much more from other suppliers could we have taken on if we weren't having our own disturbances. And then how much more could the Tier 1s have been ordering if they haven't had the OEMs, semiconductor shortage, I really don't know. I cannot put a figure on that. I can only say that if there's supply chain disturbances for us, and also for the OEMs wouldn't have been there, we would have definitely supplied more.

[Douglas Lindahl, Analyst]

Okay. Yes, I understand. It's a difficult question to answer but could you...

[Georg Brunstam, President & CEO]

Yes. It is.

[Douglas Lindahl, Analyst]

I see how you responded to that. And finally, a bit of a housekeeping question, I guess, but D&A is coming down now to [ SEK 78 million ]. What should we expect going forward as a sustainable level throughout the year?

[Georg Brunstam, President & CEO]

I'm sorry, I didn't hear your question.

[Douglas Lindahl, Analyst]

Yes, a bit of a housekeeping question on depreciation and amortization, which has come down quite a lot in recent time. Is it possible to give some sort of guidance on what we should expect there going forward?

[Georg Brunstam, President & CEO]

I think the levels that you've seen lately in the last couple of quarters are -- that's a reasonable level for us.

[Douglas Lindahl, Analyst]

For Q2 it's a bit on the low side there.

[Operator]

Our next question comes from the line of Gustav Österberg of Carnegie.

[Gustav Österberg, Research Analyst]

Georg and Peter, I'd like to ask a quick question to get some more color on demand, please. You mentioned numbers are strong. The supply situation is tough, but manageable, and it appears that vaccination rates are going in the right direction. Is it trying to drop the comment that uncertainty still remains high? Or what's keeping you from removing that? Is it related to supply situation? Or could you elaborate a bit on that, please?

[Georg Brunstam, President & CEO]

Yes, I can. And I think both you and I can go back to the comments from all OEMs in automotive, I mean, they are still talking about semiconductor shortage and stopping weeks and stopping days. And then how that will happen, how that will come in play and effect I don't know. So that's where we have a big uncertainty.

[Gustav Österberg, Research Analyst]

All right. So if I read you correctly, then I mean the underlying recovery in demand is still there. It's more the timing and the short-term issues, kind of where uncertainty is hiding.

[Georg Brunstam, President & CEO]

I think that's a good interpretation.

[Operator]

Our next question comes from the line of Johan Dahl of Danske Bank.

[Johan Dahl, Analyst]

You talked here about having your ability to supply and strengthen customer relationships, et cetera. Could you just talk about how sticky that potential new business is? Is it more of a spot character? Or is that something that you think could sort of have a more long-term impact for HEXPOL?

[Georg Brunstam, President & CEO]

I think it's a very good question, Johan. And we have been very clear, both in tactic and strategy in this. I mean I think we are a big player in our industry and certainly in the rubber compounding industry. And if we are having good -- not good. If we're having less bad accessibility to things, then we try to use that, of course, by servicing all our major customers, normal customers, which have, of course, a very, very high stickiness. That's our business model. But of course, if we got some chances to supply some other customers as well, we have been very tactical and trying to find long-term customers, who could be sticky for us as well.

[Johan Dahl, Analyst]

Okay. You talked here on your sort of management agenda, you talked about the valuation of manufacturing footprint. What is exactly sort of -- what are you going to pick there in your view? Just your pattern, some sort of those major headlines on that.

[Georg Brunstam, President & CEO]

I think we went out with the closure of 1 more American plant, quite quite some time ago. And that is not of the agenda yet, but it's still -- but it's less likely now given the improved demand and also the fire we had in Jonesborough. But we are still evaluating is that it's less on top of the agenda than it was prior to the recovery of demand and prior to the Jonesborough factory fire.

[Johan Dahl, Analyst]

Okay. That's why I'm trying to raw materials that raw materials prices were higher this quarter compared to last year, but was it double digit? Was it sort of mid-single digits? Could you just give us a ballpark number there?

[Georg Brunstam, President & CEO]

Yes, it's single digit, and it's low mid.

[Operator]

Our next question comes from the line of Karl Bokvist of ABG.

[Karl Bokvist, Analyst]

George and Peter, first one, how one should given where we are now. And I think there are some players out there throughout the value chain, talking about how the automotive demand could sequentially come down, at least in the third quarter due to the bottleneck issues and supply chain constraints. I realize you have a quite sort of -- you don't really have too long visibility, but given where we are today, what are your thoughts about sort of a continued sequential improvement on your end? Or if you feel that the automotive end market might have been sort of at a level that could come down a bit during the third quarter?

[Georg Brunstam, President & CEO]

That's a very good question. And it's a question we think about and we analyze and when we look at every day basically because it's extremely important for us. But -- If I hear from our Tier 1s and if I hear from the OEMs, what they are saying is that the sales of our cars is good. It's actually the ability to deliver, which is bad. And also, for example, in Americas where they produce to inventory, the inventories are very low, extremely low. And if you go to a car dealer there, I mean, because the dealerships are empty of cars. So that tells me that if the semiconductor problems are not getting worse, then there should be a good demand for parts to production of automotive cars. So that's what we hear. And then -- but as I said in my outlook and comments, we are [indiscernible].

[Karl Bokvist, Analyst]

And just a follow-up there. When you say that inventory levels are low, are we talking about car inventories or the inventory levels of your customers?

[Georg Brunstam, President & CEO]

No, car inventories.

[Karl Bokvist, Analyst]

All right. So I was just thinking...

[Georg Brunstam, President & CEO]

And our customers, they are delivering just in time like we are.

[Karl Bokvist, Analyst]

Okay. So you haven't seen any sort of inventory dynamic among your customers?

[Georg Brunstam, President & CEO]

No. I don't see that.

[Karl Bokvist, Analyst]

All right.

[Georg Brunstam, President & CEO]

No, I don't see that.

[Karl Bokvist, Analyst]

And then I guess the -- during the first quarter, you stressed that your ability to deliver now that you've had so far, no issues in terms of raising prices given that customers have prioritized availability over any possible price discussions. I was just curious to hear what your thoughts are as we -- towards the end of this quarter and as we head into the second half of the year when raw material prices will, the way they seem now at least be even more sort of impactful year-over-year?

[Georg Brunstam, President & CEO]

That is still the case, what I said. That is, of course, a very, very tough discussion. I mean somebody must swallow the cost increases somewhere. So I think it's -- we're still in the same situation. And that has always been the case in our business model as well. We pass the cost increases so...

[Karl Bokvist, Analyst]

All right. And then I seem to recall that previously, you've been talking about sort of structural cost level to think about would be somewhere around SEK 200 million and now it's below SEK 190 million ]. Is it -- Is there any particular seasonality in here as well as vacation or anything that means that in the future quarters, we might still think about a level closer to SEK 200 million rather than SEK sub-200 million.

[Georg Brunstam, President & CEO]

As I mentioned before, I mean, we've taken out the structural cost savings, and they are there. The low cost here in the quarter is the result of both the structural savings and very, very tight cost control. I think if one looks ahead, we've said around SEK 200 million. If it's somewhere around there or just below, I think, is a reasonable view on our cost base.

[Operator]

Our next question comes from the line of Viktor Trollsten of DNB.

[Viktor Trollsten, Analyst]

I'm a bit curious about the sequential trend. You mentioned about organic growth also on a quarter-over-quarter basis. Could you please split how much of that sequential organic growth was volumes? And how much of that was price, please?

[Georg Brunstam, President & CEO]

Yes, we can roughly. It depends a little bit on the mix as well, of course. But roughly, I think it's fixed. In FX, we have fixed percent organic growth quarter 2 versus quarter 1. And I would say it's half-half maybe slightly more than half on the price.

[Viktor Trollsten, Analyst]

Okay. That's helpful. Just looking on the volume trend then, has that call it, accelerated during the quarter? Or where are we on run rate now versus beginning of Q2? Do you still see a trend of accelerating volumes?

[Georg Brunstam, President & CEO]

No. I think there's no pattern in Q2 on the demand more than than the holiday days in quarter 2, but they are not -- they're every year. So no changed demand pattern in the quarter than the normal holiday seasonality with Easter and Halloween.

[Viktor Trollsten, Analyst]

Okay. And on that topic, just looking historically, the seasonal pattern in the business is not that -- But just thinking now into Q3, is there any potential even where inventory levels and demand is that Q3 could be even stronger despite all of those results?

[Georg Brunstam, President & CEO]

Q3 is is a little bit more of a holiday quarter, but our seasonality variations are not so big. But of course, I mean, August is a European holiday and U.S. is maybe less of that. But we have not any huge seasonality changes in our business.

[Viktor Trollsten, Analyst]

Okay. No, that's fair. And just also, could you remind us a bit about the lag effect you might have in price increases versus raw materials. How does that work? And I guess what I'm looking for is whether some of the effects from the current price increase is still ahead of us [indiscernible]?

[Georg Brunstam, President & CEO]

I think our pricing to customers is normally monthly or quarterly. And the same goes basically for all the suppliers. But of course, given the extreme situation has bring in quite some variation on that because it hasn't been possible to get hold of things from time to time. And then, of course, the price adjustments can vary as well.

[Viktor Trollsten, Analyst]

No, okay. I'd say I guess what I'm after is looking at your gross margin, that was down basically 100 bps quarter-over-quarter. Just thinking about that trending to the second half, should we expect given where raw materials have been on spot, should the gross margin then continue to decline a bit? Or how should we think about that?

[Georg Brunstam, President & CEO]

As you have mentioned, I mean, it depends very much on the development of raw material prices and how we can push that over -- move that over to the -- to our customers. On gross margin, there might be somewhat more pressure on the percentage, but as we have stated all along, in absolute terms, we estimate to be able to pass on any changes in raw materials to customers.

[Viktor Trollsten, Analyst]

And that's a bit what I'm asking in that absolute term, have you been able to build that during Q2? Or is that sort of a lag effect given that some pricing is on a quarterly basis?

[Georg Brunstam, President & CEO]

No. I think in general, we've been able to pass that on euro for euro, so to say, on the per dollar sense and on the raw material. But of course, I think there could be some lagging but basically, we balance with the purchasing lagging with the sales lagging.

[Viktor Trollsten, Analyst]

Okay. No, that's clear. And just one final for me, if I may, on the M&A agenda, we have talked a bit about previously about our sort of a difficult environment of actually closing acquisitions, given the restrictions on travel and so forth. Could you just comment a bit on your pipeline and also how that environment is improving or improving into the second half?

[Georg Brunstam, President & CEO]

Well, that is improving, of course, I mean it's improving because you can actually see and meet people and it's also improving that I think the market sentiment is a little bit better, and you're not posed to sell on 2020 figures anymore. And so I'm positive on that sentiment except for the price level and the multiples are going up.

[Operator]

[Operator Instructions] No further questions. I will hand back to the speakers for any further remarks.

[Georg Brunstam, President & CEO]

Okay. Thank you very much for listening in to our presentation of this quarter. We wish you a very nice weekend when you get there.

[Peter Rosén, Deputy CEO, CFO & IR Manager]

Thanks a lot. Take care.