Lifco AB (publ)

STO:LIFCO B

Earnings Call Transcript 2022-Q1

[Per Waldemarson, executive]

Thank you and good morning, everyone, and welcome to the Lifco Q1 presentation. We can start by going into Slide #2 in our investor presentation. And on a high level, we can conclude that this was another strong quarter for Lifco, driven by continued very positive development in our Demolition & Tools and Systems Solutions segments and partly offset by a slightly weaker development in the Dental field, which I will come back to in the next slide.

Then on the overall group level, we see a segment growth of 30% in the quarter, of which 14% is organic growth, acquisition contributed with 12% and we also had a positive effect from exchange rates in this quarter. On the EBITDA level, we have seen a growth of 25% in the quarter, but it actually means that we have slightly lower margins than Q1 in 2021, which was, looking back to last year, still a quarter where we had slightly lower cost levels overall following the pandemic, where we put most companies were going into more cost saving attitude during the pandemic. And we still had that effect in early 2021.

We also have an effect on the margin, a slight effect that raw material pricing is a continuous challenge for many companies and also for us. I would say for the most part, our companies are adjusting very well, and they are able to push through price increases quick enough to compensate for the higher input costs in their products. But of course, as I've mentioned in previous quarters, we have some contracts with longer order books where we have some difficulties getting this full effect translating quick enough. So that's a small effect in this quarter as well.

If we go further down and look at the cash flow, it's -- first of all, I'd like to mention when it comes to cash flow that Q1 is a seasonal effect where we normally have a lower cash flow, mainly due to the receivables that we get paid by the end of the year and now building up in Q1. We also had that [ particularly ] this year. And in addition to that, we also have as many companies around us an inventory buildup effect because in these strong market conditions and this challenging supply chain situation, some -- most of our companies are building up some safety stock to make sure that we can hopefully deliver going forward. So that has some effect. It's not a huge impact and, therefore, we can actually meet the same cash flow as last year beside these effects.

Our return on capital employed is still on a very good level, 23%, if you include the whole balance sheet and 116% when excluding the goodwill, which is once again an explanation while we can have solid cash development despite very high growth in most of our companies right now.

And with that, we can go in more to the segments on Page 3, where I'd like to start to comment a little bit about the Dental. And here, as I already mentioned, we had a decline in sales and also drop in profit in this quarter. And the perspective here should be also, first of all, looking back to last year, we had a very strong first quarter in 2021. So it's partly a comparison effect here due to the lower cost levels that we had in many of the Dental companies, following the pandemic and also led to extraordinary good margins in last year's numbers, which we have commented previously.

And just to repeat so everyone is on the same page, we saw -- roughly around the summer of 2021, we saw activity levels and cost as being back more to normal levels. As the market had been back for quite some time and companies were more forward-looking mindset, and this is not only affects for all parties and also an industry effect that -- when competition is also out more actively doing activities, we have to follow as market leaders to keep our positions.

And then for Q1 2022, I would like to specifically highlight one effect that is a little bit out of the ordinary for us. We had an additional negative sales and profit impact from COVID restrictions in China, which led to problems for our prosthetics business, where we have one major production unit in China, producing prosthetics sold mainly to the German market. And this led to a situation where we basically lost orders because the German [ entities ] to our customers had uncertainty in delivery times due to the COVID restrictions in China.

And we also have to use some -- we have to also find other production alternatives to make sure we could deliver, which led to increased costs. And here, I would like to highlight that the situation improved during the last weeks or the quarter for us. But as you all know, the uncertainty around the COVID situation in China is still ongoing. So it's just something we have to continue to be aware of.

If we go further down to Demolition & Tools, it's a very strong market conditions still remaining, which we have now for quite some time. We're growing sales with 46%, thanks to very strong organic development and complemented also with some acquisitions. And margins in this segment, as those of you who have followed us for some time because they are quite volatile, more volatile than the other areas. And this has to do with different margin levels and different product segments. It is a mix effects can come into play. And the margins are still a little bit lower than last year, and we also have in this area some effects from cost levels being more normalized now, which were not the case 1 year ago.

In Systems Solutions, we also have very strong growth in both sales and profits coming both from organic development and acquisitions. And I would say here, most of the companies in these segments have had a very solid quarter. And as you can see, the growth has translated to strong margins despite also here ongoing difficulties with raw material pricing and component pricing that has to be pushed forward into the value chain. But in this segment, for the quarter, we've been able to manage that very well.

Going forward, we can go to Page #5, just talk a little bit about our net debt position. And we are -- thanks to our strong cash flow characteristics and the profit improvements. We ended the quarter with a net debt-to-EBITDA of 1.8x, which is the same level as 1 year ago. And the interest bearing net debt-to-EBITDA is at 1.1x, which is also the same level as 1 year ago. And this is despite the fact that Lifco been very active in acquiring companies during the last 12-month period.

And I think this development is a proof of the strong cash flow generation of our portfolio, also in times of organic growth. And with this position, we remain very strong capacity for continuing acquiring great companies when we find the right opportunities at reasonable valuation levels.

And with this, we can go forward to Page #6, and this is a little bit more lifting -- more on the horizon a look at Lifco for many years historically. We are here tracking our long-term profit development. And our targets, just to remind everyone is to increase profits every year. And for the most part, we have been very successful in doing that through a combination of strong organic growth, complemented with acquisitions. And I would like to once again highlight that we have been doing this development while still paying a small dividend every year and not asking shareholders for money for capital infusion to Lifco. And after the first quarter in 2022, we also have a very good start for this year. And of course, we don't make any statements about future. Instead, we focus on adapting to the market situation that we operate in.

And then we can go all the way down to Page 28 and basically, just conclude on the acquisition level that we had, as you all know that we had a very strong 2021 and a slightly softer start to 2022. And this is just another example that, that doesn't mean that Lifco activity level has changed compared to last year. But when it comes to acquisition, it's always difficult to predict and the outcome will be different between quarters. And we are in many different discussions, and we are very active. And sometimes, these materialize into transactions and sometimes we for various reasons, it doesn't translate into a transaction. So we continue the high activity level and ambitions are still very high for future acquisitions.

And then also I'd just like to make one more remark on the acquisition side, and that's actually to mention that with this week announced something that is not very normal for Lifco. We actually announced a divestment of one of our portfolio company. And as all of you know, this is not part of the normal Lifco strategy to sell companies, and it will not be for the future either. But this company is called Hekotek. It's an Estonian company that sells sawmill equipment project business into Russian markets or mainly the Russian market. The turnover here it was about EUR 40 million in 2021, and Hekotek has been in Lifco for about 15 years. And I also like to thank the management of the company for all the successful cooperation over all these years. But given the situation right now, we have -- we think it's the right decision for Lifco to sell the shares in Hekotek in these market conditions.

And this is all I wanted to share with you for now. So also I would like to open up for any [ contention ] questions.

[Operator]

[Operator Instructions] Our first question comes from Carl Ragnerstam.

[Carl Ragnerstam, analyst]

It's Carl from Nordea. A few questions from my side. Firstly, I think you mentioned in the report that you had some raw material headwinds in the quarter. Is it possible to, firstly, maybe to quantify which segments you see the most impact from it? Also, is it possible to quantify the gross margin impact from it because it's down a bit year-over-year? And thirdly, on that note, is also, of course, if you have -- I mean, given that we have seen a lot of raw materials rally post Q1, and if it's fair to assume that the headwinds could increase in Q2?

[Per Waldemarson, executive]

So there were a few questions there in advance. I will try to answer them. I mean, first of all, when it comes to raw material pricing, it's basically everywhere. I think the effect for us is more related to how long order books we have and what type of contractual situations are we in with the customers. All our companies are taking actions and are adapting to this. So this is, once again, a timing effect, if anything. We are -- I feel very comfortable that the Lifco portfolio can manage this. We have strong enough companies in strong market position that we can deal with the raw material and the component pricing increases. It's just a timing effect that varies between different companies.

When it comes to the margin, as we have said, there is some effect of that, given the strong operational leverage that we normally would be seeing. We are not increasing our margins as much as we maybe would do in a normal market situation. So there is some effect of that, and we are working very hard on this in all our companies. We're working with new price levels and also how to address the order book that we have in this situation. And the exact timing of how the outcome will be is very difficult to sort of -- to mention in Lifco and also to look forward to this because it's a constant, I would say, almost weekly battle on how to address these issues in all our companies. And for the most part and for all parts, I would say, we're doing a very good job in this. But we have to keep in mind when you have longer order books going 3, 4, 5, 6 months out and the course of the changing material price situation, it is a challenge that we have to address.

Another thing I'd like to highlight also is that when it comes to gross margin, there's also an effect of mix effect that kind of come into play that. Some companies have high gross margins and some companies have slightly lower than when you have a different growth perspective in different parts of the portfolio, it can also come into play in this dimension. But I think going forward, we don't make any statement. We can conclude that it's not over when it comes to price increases. It's still happening right now, so to say.

[Carl Ragnerstam, analyst]

And you mentioned the prosthetics business as well, I guess that is one explanation to the gross margin down. Is it possible to give any flavor on the impact from it?

[Per Waldemarson, executive]

No. But I think it's -- as you can see in the numbers, there is an effect. So it's not dramatic on the whole Lifco level, but it was important enough for us to highlight it in these quarterly numbers. And as you know, if you follow us for some time, we don't normally pinpoint specific company effects. And this was actually more of a specific company effect that we thought was big enough to mention in this quarter. And I think also what I can say is that it's a very high margin business for us in the Dental area with prosthetic business, which we have been communicated previously.

[Carl Ragnerstam, analyst]

And you said that the effect is easing during the quarter, right? But should we assume that you have an effect still during Q2?

[Per Waldemarson, executive]

Well, what we communicated is that in the later part of the last weeks of the quarter, we saw an improved situation. What will happen going forward with China COVID restriction, as you all know, it's impossible to forecast. But going into this quarter, we saw an improvement. But what happens from here on is still a risk [ analysis ]. You have to follow China COVID strategy and this type of situation to [ make a forecast on that ].

[Carl Ragnerstam, analyst]

And also in terms of M&A, would you say that it's tougher to sort of do due diligence and find a good valuation level? When we have this kind of inflation, it's tough to really say what a company is making on an underlying basis. Is that hampering the, not deal flow, but the number of acquired companies?

[Per Waldemarson, executive]

I think, in general, it's been a special situation in the last 2 years with COVID coming in and then the effect post-COVID, many companies have extraordinary good development following the COVID period, lower cost level that makes it a little bit more tricky to understand what is the fundamental earnings situation of the company. But I don't see that as the major hurdle for us to continue doing acquisition. We're able to navigate through that when going deeper into the companies.

What could happen and what has happened, Carl, I think some others that -- you might -- when diving deeper into numbers, you might slightly see the company, which might -- which have led to maybe a few companies that we thought looked a little better than they really were that we actually thought. But that's -- I mean that happens all the time, but in the industry maybe that had some effect. But in general, I wouldn't say it's a major challenge in that respect. It's the same situation for my company now as it was 3 years ago from that respect.

[Operator]

[Operator Instructions] So our next question comes from the line of Karl Bokvist.

[Karl Bokvist, analyst]

My first one is, if it would be possible just to comment if you're seeing particularly strong or weak demand from any end markets within Demolition & Tools and/or Systems Solutions?

[Per Waldemarson, executive]

I mean we haven't commented that specifically in our quarterly report, which we've done sometimes historically. And I think this is an indication that it's pretty much across the board. I think some companies saw an extra good conditions in North America. But for the most part, the European markets are holding up very well also in this quarter. So it's a strong market conditions in those segments across the board in Q1.

[Karl Bokvist, analyst]

Understood. And just regarding -- we talked about cost inflation. But if we think about lead times, have you seen any changes to the current situation compared to, for example, end of this year and how it progressed throughout the quarter?

[Per Waldemarson, executive]

You're referring to sort of lead time -- supply chain problems basically and lead times.

[Karl Bokvist, analyst]

Yes, exactly.

[Per Waldemarson, executive]

Yes. I think here, we have to be humble and acknowledge that this has been going on now for quite some time, and we've been sort of scrambling around in all our companies. We have had problems with deliveries throughout the last 12, 15 months period, but it has not been significant enough to be noticeable on a Lifco level. And as I think I mentioned in previous calls, we also probably would have been able to grow even quicker if we had more access to raw material in this last 12 to 15 months period.

So where we stand right now, we've been -- I think we've been doing a very good job in handling this, but it's not over in this dimension either. It's an ongoing problem. And it's -- we always -- maybe a little bit careful to look forward here. But as we've been struggling with this for quite some time and all companies are struggling, the question, of course, is that if it continues for a longer time and you used all your backup solutions, will it be a problem in the future? I don't know. And I can only comment once again that in Lifco, we are in so many different segments in so many different areas. But we will have problems and certain companies also, I think, going forward, but it will be materialized on the group level. I think it's very difficult to say right now. But it's still an ongoing challenge in the portfolio as it is for many companies.

[Karl Bokvist, analyst]

Understood. And then finally, on acquisitions, you highlighted your headroom for it. But just looking at the last couple of years, it seems like we -- implicitly, you've been able to find them and agree on deals with companies that have higher and higher margins throughout the years, at least, well above 20%. Is it just things that have happened and the natural occurrence or something strategically here that you are focused on?

[Per Waldemarson, executive]

So we -- in general, we have an appetite for a very diversified niche companies, ideally global market leaders with a strong global market position in a very small niche, which normally leads to very high margin potential for such a company. So that's not a coincidence that we have the appetite for those companies. And the reason we have this appetite is to our historical experience over 22 and 23 years, Lifco has been in the current format. We've been learning that some of these companies have very strong possibilities to long-term develop very nicely. So that's one dimension.

The other dimension is that now we are on a [ model ] level and we've been on the [ model ] level now for a while at a 20% and 20% even above here. It doesn't mean that every acquisition will be above the average because we are -- in some areas, especially where we already have a lot of experience, we will sometimes go in and take -- start a journey, but a slightly lower margin and try to develop that. And we are more focused on the return on capital employed dimension as a very strict number because we do know that we need cash flow generation at same time organic growth to continue to journey. So that's extremely important for us and, of course, margin as well. But we don't set a fixed target for that. We don't -- there's no point to say that the margin should be this or that, but we need very good companies with good potential for long-term development in Lifco.

So I think that explains the historical reason. But from here on, we're not setting a target that it has to be this much higher than we are today in future acquisition. But our appetite in general are stronger for very good companies.

[Karl Bokvist, analyst]

Understood. And then just my final one is perhaps if you could share some thoughts on -- in this very inflationary environment when companies left, right and center are forced to raise prices significantly, how this impacts your kind of long, long history and track record of just continuously raising prices in general?

[Per Waldemarson, executive]

Well, I think it's more -- it's slightly more difficult to -- if you're talking about the sort of extraordinary [ modern ] adding price increases, it looks slightly more difficult to be time to catch up. I think that's our experience right now. But we are working on that as well to make sure that we are getting the maximum output of the Lifco potential, but it has been a struggle where we just have to work very hard to be staying at the levels we were before all this material pricing came into play. So I think it's slightly more difficult. But I don't think that means that we can't do it. And we have a strong culture in Lifco that strives for better margin all the time. So we're working very hard on that as well.

[Operator]

So we have no more questions at this time. So I hand the word back to you, Per, for any concluding remarks. Sorry. Sorry, there are questions here. Our next question comes from Ricardo Damian from One Investment.

[Ricardo Damian, analyst]

Maybe on System Solutions, can you please help us understand the EBITDA on the profitability, if it was mostly coming from a better margin as the new acquired units? And then I have some follow-ups, please.

[Per Waldemarson, executive]

Our System Solutions is a very diversified area, as you might know. And we have some effect on the acquisitions the -- helping us on the margin in this sector. But you also have some companies or many companies in the area would actually improve their margins during the quarter as well, not dramatically, but on a good level. So it's a mix effect, as we also pointed out in our report.

[Ricardo Damian, analyst]

Okay. And looking -- just for a comparison with last year, you talked about costs coming back. Were, in Q2 last year, costs already coming back? Or should we still continue to have that effect in Q2 year-over-year?

[Per Waldemarson, executive]

What we have been communicated is that around the summer, and that's Q2, Q3 around that period, basically the story goes as follows is that when COVID came in 2020, yes, in April -- March-April 2020, Lifco's very entrepreneurial-driven and fast-reacting companies put everything on hold. It was an uncertain time, and we basically pulled the brakes in the companies for obvious reasons, the uncertainty we had there. Basically, around the beginning of 2021, the mindset was different. We saw that the markets were back and things were getting -- was actually pretty good.

Were actually good in most companies. And then it took a while before the -- then they starting planning activities and rehiring functions that may be disappeared and things like this. And then we basically -- we cannot give you exact date, but we saw that effect basically normalizing from around the summer of last year. And then it's more normalized. And then you can always say, are there as many trade shows in the fall of '22 -- '21 as it was in '19, maybe not. But there's a general activity level back into a normal -- normalized situation from that.

[Ricardo Damian, analyst]

Okay. And then maybe my final question just so to see if I understand correctly on pricing versus cost. You're still -- because of the very dynamic situation, you're still catching up in Q2 trying to raise prices, is that correct?

[Per Waldemarson, executive]

Yes, very much so. We very much so trying to raise prices in Q2, and we are not trying. We are raising prices. But as I'm trying to explain here is that when you have companies with longer than normal order books, it is a challenge. If you have no order book, it's not a challenge. Then you just raise the price and then from -- if you say you have 1 month notice. From 1 month, you get full effect of that. And when you have very low order book, we don't have the inventory in these companies or repurchase on lower material prices then you have some company. But I think we should not overreact on this statement. This is a -- it's a little bit of a negative effect we have to work through.

On the overall level, we are doing a very good job. And I think once again, we should also remind ourselves that in Q1 last year, we had extraordinary good margins in many of our companies following the COVID situation. So I think I'm not overly worried about this. It's a constant struggle, and it's not over yet. We are still working very hard on making sure we are updating our prices quickly enough in the company. But it's not a long-term issue for Lifco.

[Operator]

Our next question comes from line of Daniel [indiscernible] .

[Unknown Analyst]

Obviously, you alluded to your inventories being a bit higher, a few hundred million, I guess, because of safety stock and supply chain issues. Do you think also that you might have had an impact on that and your organic sales being at 14%, i.e., that your customers have bought safety stock as well?

[Per Waldemarson, executive]

I think there could be some companies in Lifco more in the -- that are more in the component manufacturing type of business. You could maybe see some effect around that. Whereas in other parts of Lifco, I don't think that's at all. We didn't sell a quite expensive CapEx-driven machine to an end user. They don't normally stock up. But we have to be careful and there could be those effects in general in this economy going on. I think there could be some companies Lifco where it could be the case. But I don't think it's across the board. It's an enormous problem right now.

I think it's more maybe related to something we don't communicate our order books, which I'm very, very glad we don't communicate because I think the meaning of an order book today could be very different from company to company. And there, it could be more effective. The orders are coming in a little bit typically in some of our companies. But it doesn't really change our mindset. Even we are working very carefully in signing our future and different types of scenario around that. So I don't think that's a dramatic effect so far. But of course, in some of the companies, it could be effect. But not on the overall Lifco, it's not a huge effect.

[Unknown Analyst]

And in terms of the order book, have you seen a lot of movement in the order book that people are placing orders that they are later withdrawing and stuff like that?

[Per Waldemarson, executive]

No. No.

[Operator]

So now we don't have any more questions at this time. So I hand it over back to you, Per, for concluding remarks.

[Per Waldemarson, executive]

Okay. Thank you very much for listening, and thank you for the questions. And I wish everyone a nice Friday and eventually a nice weekend. Thank you very much.