5N Plus Inc

TSX:VNP

Earnings Call Analysis

Earnings Call Transcript 2024-Q2

[Operator]

[Foreign Language] Good morning, ladies and gentlemen. Thank you for standing by, and welcome to 5N Plus Inc. Second Quarter 2024 Results Conference Call. [Operator Instructions] [Foreign Language]

Now I would like to turn the conference over to your speaker today, Richard Perron, Chief Financial Officer. Please go ahead, sir.

[Richard Perron, executive]

[Foreign Language] Good morning, everyone, and thank you for joining us for our Q2 2024 results conference call and webcast. We will begin with a short presentation, followed by a question period with financial analysts. Joining me this morning is Gervais Jacques, our President and CEO. We issued our financial results yesterday and posted a short presentation on the Investors section of our website. I would like to draw your attention to Slide 2 of this presentation.

Information in this presentation and remarks made by the speakers today will contain statements about expected future events and financial results that are forward-looking and therefore, subject to risks and uncertainties. A detailed description of the risk factors that may affect future results is contained in our management's discussion and analysis of 2023 dated February 27, 2024, available on our website and in our public filings.

In the analysis of our quarterly results, you will note that we use and discuss certain non-IFRS measures, which definitions may differ from those used by other companies.

For further information, please refer to our management discussion and analysis. I would now turn the conference over to Gervais.

[Gervais Jacques, executive]

Thank you, Richard, and welcome, everyone. [Foreign Language] Yesterday, we announced our results for the second quarter of 2024. For both the second quarter and first half of 2024, we generated impressive year-on-year revenue and adjusted EBITDA growth as well as solid margins and a near record backlog. This strong KPI performance was propelled by the strategic sectors we serve. With terrestrial renewable energy and space solar power, they stand out. More broadly, we continue to operate in a complex environment in the core markets we serve. Both in terms of sectors and geographies in North America and Europe.

In a tense geopolitical climate, and with increasing [indiscernible], 5N Plus remains favorably positioned not only as a reliable but trusted supplier of critical materials based outside of China. This was evident this past July when I presented at the World Materials Forum in Paris. The current geopolitical situation and the importance of having reliable supply chains where key teams at the conference and very much top of mind for the corporate leaders in attendance.

It was a great opportunity to showcase 5N Plus unique expertise and reinforce our value proposition. Looking now at some Q2 highlights. Under specialty semiconductors, beyond our strong financial performance across the board, the second quarter also marked the successful renewal of our agreement with First Solar. As you know, First Solar is a key strategic customer and long-standing partner that has relied on us for the supply of specialized semiconductor materials for the manufacturing of thin-film PV solar modules. We were pleased to renew the agreement under favorable commercial terms.

On volume, it represents a 50% increase over the next 2 calendar years compared to the previous agreement. We will also continue to work on the development and supply of additional specialty semiconductor products to support the growth and improvement of thin-film technology with our partner. This sector continues to experience rapid growth, and we are well positioned to benefit from that growth as a trusted supplier.

Also during Q2, but already discussed on our last conference call, we announced a U.S. Department of Defense Grant for $14.4 million, covering a 4-year term. This is going towards our production facility in St. George, Utah for the manufacture of germanium substrates used in solar cells for defense and commercial satellites.

Looking at AZUR, the satellite market is very active, both in North America and Europe. In this context, AZUR is very well positioned given its unrivaled leadership in solar cell technology and track record as a partner of choice to the world's leading Western Space agencies and other key stakeholders. Two recent examples include the European Space Agency, Ariane 6 Rocket, which successfully took its maiden voyage this past July. This initial voyage included a number of university-led missions, which integrated our solar cells. And the NASA Europa Clipper, which is the largest spacecraft NASA has ever developed for a planetary mission. The crack is outfitted with large solar array that will serve as the primary power source for the mission. The arrays are large as the Jupiter system is more than 5x as far from the sun has hurt. The array uses AZUR SPACE 3G28 solar cells.

Looking now at our operation globally. Midway through the year, we are pleased that our 2 major capacity expansion projects are progressing on plan and nearing completion. In Montréal, new semiconductor compound capacity is expected to be commissioned in the third quarter of 2024, which at ramp-up would represent a 100% capacity increase over 2022 levels. This is capacity that will be utilized to serve First Solar. Our capacity increase program at AZUR in Germany is also well underway. New reactors are expected to be commissioned during the third quarter, enabling us to reach our plans to increase capacity by 30% at this location by the end of 2024. This is compared to 2022 levels.

Of note, at the end of May, Siemens announced the construction of a purpose-built facility, which marks the beginning of commercialization for the innovative revolutionary photon-counting CT scanners, whose detection layer consists of cadmium telluride. We intend to be active in this market which represent interesting growth opportunity for the company.

Turning to Performance Materials. Revenues were slightly lower year-over-year as a result of lower business-based products and specialty alloys sales. Both adjusted EBITDA and adjusted gross margin were impacted by a less favorable product mix in the segment compared to last year. Looking at the rest of the year. Performance Materials remains a longer-term story with growth expected to get a lift as new APIs are introduced into the market, namely our ongoing and promising work by Microbion, which will take several quarters. And overall, we will continue to prioritize value over volume.

In conclusion, our strong overall performance and continued momentum in specialty semiconductors reflect the execution of our strategy aimed at securing additional volume, strong pricing and to maintaining an overall favorable product mix across our segments. I would like to recognize the 5N Plus team for successfully delivering on our strategic priorities and further solidifying our position as the trusted supplier of advanced materials globally.

The renewal of our agreement with First Solar illustrated this well coupled with the disciplined execution of our expansion project on plan. We are building our capacity in tandem with contracted demand as well as to capture future opportunities. Halfway through the year, our performance is right on track, and our objective for the remainder of the year is to stay the course.

Richard, over to you for a review of our financial results in more detail.

[Richard Perron, executive]

So thank you, Gervais, and good morning, everyone. So underlying our strong Q2 and year-to-date financial performance, including on revenue, adjusted EBITDA, adjusted gross margin and backlog are the fruits of our relenting efforts and focus on the right priorities across the organization. We are committed to developing and maintaining value-added partnerships with customers in critical and high-growth end markets. We continue to be guided by the tenets of our commercial excellence program, and we are strategically supporting our growth through capacity expansion projects in the various sectors that are propelling our performance and strong year-over-year growth. namely intertrial renewable energy and space Solar Power.

Simply put, we are delivering our stated objectives, building up on our operations and growing in value-added sectors, with a clear view to our annual targets and objectives. Our performance reflecting an enhanced business model promoting unique opportunities for organic growth despite the volatile and dynamic nature of our businesses. Looking first at revenue. For the second quarter of 2024, revenue increased by 26% to reach $74.6 million. Consistent with last quarter, this was primarily driven by strong growth in the specialty semiconductor segment, which continues to represent an increasingly larger proportion of our overall revenues. This is also reflected in our adjusted EBITDA, which increased by 24% to $13.5 million, supported by our volume under specialty semiconductors as well as pricing over inflation.

This brings adjusted EBITDA year-to-date to $25.2 million, which brings us midway through the year to the high end of our annual guidance of $45 million to $50 million for the full year. Adjusted gross margin in terms of dollars was very strong, increasing by 20% over last year to reach $23.4 million in Q2 of this year, favorably impacted by the same factors.

Adjusted gross margin percentage also remained strong, coming in at 31.3%. This is compared to 32.9% in Q2 of last year, a variance that is explained by less favorable product mix under performance materials. Year-to-date, adjusted gross margin percentage came in at 31.1%. While there will be product mix variances in our segments from quarter-to-quarter through the remainder of the year, we will continue to feel good about our ability to maintain annual margins above 30% and to bunch up this number next year.

On a segmented basis, Q2 revenue for specialty semiconductors was $52.3 million compared to $36.3 million in the same quarter last year. Adjusted EBITDA increased by 61% to reach $13.1 million. This impressive year-over-year growth on both of these metrics reflect higher demand from the strategic terrestrial renewable energy and space solar power sectors. Adjusted gross margin percentage was 33% for the segment compared to 31.9% in Q2 of last year. Year-to-date, it stood at 31.2% compared to 31.5%, the difference reflecting a less variable beginning of year inventory position as discussed last quarter.

In performance materials, revenue was $22.2 million compared to $22.8 million last year. The slight decline is largely due to lower bismuth-based products and specialty alloy sales, which is consistent with last quarter as well. We continue to see some inventory adjustment in those end markets, but demand forecasts remain favorable and believe this is lying to be transitory. Adjusted EBITDA was $2.9 million, a decrease over the same period last year, primarily attributable to lower volumes and a less favorable product mix.

Adjusted gross margin came in at 28.4% for the quarter for the same reasons compared to 36.6% last year. But year-to-date, adjusted gross margin was 31.7%. Our consolidated backlog reached near record levels in the quarter, coming in at $245 million and representing 300 days of annualized revenue at quarter end. This is 12 days higher than the previous quarter and 11 days higher than the same period last year, primarily due to the timing of contract signings and renewables. Here, too, the underlying performance in specialty semiconductors is the main driver.

In fact, we have once again maxed out our backlog at 365 days for specialty semiconductors due to confirmed long-term contracts. As a reminder, the estimated number of days based on annualized revenues cannot exceed 365 days per our definition. But in reality, the segment's backlog currently surpasses the next 12 months, which once again speaks to the strong demand in the strategic sectors we serve.

Finally, net debt was $91.1 million as of June compared to $73.8 million as of December 2023. This reflects an increase in working capital and planned capital expenditures in the first half of 2024 under specialty semiconductors as discussed last quarter. Those projects are progressing well, as mentioned by Gervais. In terms of CapEx spend to the rest of the year, that should moderate through the second half, if all goes to plan. Our objective is to keep our net debt-to-EBITDA ratio in and around 2x.

Finally, turning to guidance. Our year-to-date performance gives us continued confidence to reiterate our previously disclosed full year 2024 guidance of adjusted EBITDA ranging between $45 million to $50 million. Based on our current visibility and current trends maintain, we expect to land in the upper range of that guidance. Guidance of full year 2025 remains unchanged for the moment, between $50 million and $55 million.

Overall, we are pleased with our performance and our ability to execute and that will remain our focus. So that concludes our formal remarks.

I will now turn the call back over to the operator for the Q&A session.

[Operator]

[Operator Instructions] [Foreign Language] The first question will be from Adam Schneider at Cormark Securities.

[Adam Schneider, analyst]

I'm just filling in for David. He's traveling today. But I just wanted to congratulate you guys on the strong quarter. And given that strong quarter in the first half of the year, you're expecting 2024 to come at the top end of your guidance. What needs to happen for the company to exceed these targets?

[Richard Perron, executive]

As you -- I'm sure you expect us -- what you have to expect from us is to do our best to exceed it. But again, we're providing a guidance on a range basis. We don't control everything, but I mean, it needs to start to be all fully aligned by until the last of the year. But everything is in place to reach or exceed. I mean, our capacity will be in place. The contracts are there. The team is well aligned to achieve the high end and again, we'll do everything to surpass the high end, if possible.

[Adam Schneider, analyst]

Okay. Great. Also, there's no proper announcement this quarter, but I think now you have a decent size of your 2026 and 2027 order books full. When you're thinking about expanding your AZUR capacity further, what are some key milestones we should look out for? Any thoughts on establishing a U.S./North American presence?

[Gervais Jacques, executive]

Well, we're as -- this is Gervais. We're working with our customer. What we want to have is a healthy pipeline of demand for the next foreseeable years. And that's what we're working on with them. And we will adjust the production as we go, but we'll do it step by step and we'll try to develop all these optionalities of increasing the capacity by a small step.

[Adam Schneider, analyst]

Okay. Great. And 1 more quickly. Can you speak on the competitive dynamics in space? I believe you only have 2 other Western World competitors, and we're curious to see if you're seeing them add capacity given the strong outlook for space and the fact that demand continues to outstrip supply.

[Gervais Jacques, executive]

Well, we have 2 competitors. One of it is Spectra Lab being owned by Boeing. They are very stable. They are fully -- almost fully dedicated to internal Boeing needs and then you have SolAero. SolAero is also increasing their capacity and the market -- both -- the demand both in Europe and in the U.S. is still very, very strong. Then doing what we're doing, but with a 2- to 3-year lag because remember, 2 years ago, we decided to increase the capacity at AZUR. Now they just decided to announce that they will be increasing their capacity. Then I would say that we have at least 2 years or 2.5 years ahead of us -- ahead of them.

[Richard Perron, executive]

As we've mentioned on numerous occasions, the industry is doing very well and growing. So in short, everyone is very busy and adapting their capacity.

[Operator]

Next question will be from Frederic Tremblay at Desjardins.

[Frederic Tremblay, analyst]

On the specialty semiconductor margins, really strong in the quarter. I'm just curious to see if at AZUR, there was a cycling tool of lower margin contracts that were taken out by the -- your prior owners. Is that -- has that been completed? And therefore, now the better margin contracts are contributing to the segment's profitability? Or was that not a factor in GTA?

[Richard Perron, executive]

As you can see from Q2, we have much better gross margin than the Q2 of last year and specialty is now coming up with better margins in performance materials as we were expecting. That being said, performance show is performing super well on an absolute basis. So direct -- back directly to your question, yes, the -- many, if not all, of those contracts have been depleted so far, and we're getting into realizing those newer contracts that were earned under our ownership period.

[Frederic Tremblay, analyst]

Okay. And then just quickly moving to guidance as well. Maybe on the '25 guidance, I know it's a bit early to change that. But if you're expecting the higher end of 2024 guidance, I mean, is there a reason why you wouldn't also reach the high end of 2025. I mean the low end is basically the top end of 2024. So I'm just curious to get your thoughts, initial thoughts maybe on how 2025 could shape up if you're expecting the high end of 2024.

[Richard Perron, executive]

Reason is fairly simple. Internally, we have this process that occurs in fall where essentially we update our LRP, so long-range plan. It's that point in time that we do that complete bottom-up exercise and we get much better assurance as to what is a reasonable range to reach for the following year. So we're going to be compiling it all during fall.

[Frederic Tremblay, analyst]

Yes, sounds good. I figured it was a bit early to provide an update on '25. So moving on maybe to -- just on the performance materials, in your prepared remarks, you mentioned that there was some inventory adjustments in some end markets. Can you maybe get a bit deeper on that on what's driving customers' decision to do that? And if that's something that's expected to last maybe for the balance of the year, if you have any visibility on when the volumes might improve in that segment?

[Richard Perron, executive]

You're referring to -- sorry, I missed the beginning, so Performance Materials. Is that it?

[Frederic Tremblay, analyst]

Yes. Yes. Just on the inventory adjustments that you mentioned in some end markets, maybe some additional colors on reasons for that. And the timing as well, to see things normalize on that front?

[Richard Perron, executive]

Volume-wise, I suspect the normalization will happen next year, but we expect a much better product mix in the second half of this year on the performance materials. So we'll see what will come up, but we expect better margins. But from -- purely from a volume perspective, that segment historically, H2 was always a bit softer than H1 from a volume perspective. But this year, we expect a better mix. And then the absolute volume from year-over-year, we expect volume to go back to what we were used to. And again, we are mentioning volume because we have to explain slightly lower results, but ultimately, it's very like the small over volume.

So it doesn't need much more to pick up and go back to what we were experiencing last year and a year before. Does need drastic event to go back to the volume where we used to the last couple of years.

[Operator]

Next question will be from Michael Glen at Raymond James.

[Michael Glen, analyst]

Just looking for Q2. I know in some quarters, you could have lumpy quarters, like a lot of stuff will get shipped in a period or anything like that. Like for the revenue in the quarter, was there anything that was shipped in the period that was a surprise. I'm just trying to get a sense as to was there anything anomalous in the quarter that drove the revenue gain?

[Richard Perron, executive]

No, nothing specific. It's always like with the products we have and the sectors we serve, mix has an impact on both the margins and the revenue line, but there's no specific order or client that was served that was not planned to be served within the quarter.

[Michael Glen, analyst]

Okay. And then just on the working capital, can you speak to how we should think about working capital evolving through the back half of the year?

[Richard Perron, executive]

Yes. So we have increased our working capital inventory, and as I mentioned it late last year and in the first half of this year. All of that, again, for the same reasons mentioned in previous quarters, we're getting -- gearing ourselves to meet demand and we have a bit more than usual. So going forward, the incremental inventory that we'll bring on board in order to meet demand will be -- will not be of the same magnitude, okay? Plus, in particular, for Q2, we realized a fair bit of sales toward the end of the quarter. So collection-wise, while historically, and we continue to experience some very, very good AR turnover in terms of base, a bit less, obviously, was collected during the quarter, but it's actually currently being collected as we speak.

So there's a little bit of timing to the collection and realization of the cell and inventory to gear up ourself. But going forward, again, the increase in inventory will not be of the same magnitude.

[Michael Glen, analyst]

Okay. Should we expect -- I mean, should we expect working capital to reverse from current levels though?

[Richard Perron, executive]

No. Okay. Let me try to be more precise. It will not reverse down by a lot, if anything, but definitely from a going-forward basis in order to meet growth and all of that, the increase will not be of the same magnitude over the last 6 months. 6 to 9 months if you include Q4 of last year.

[Michael Glen, analyst]

Okay. And then are you able to provide -- Richard, there is a moderation of CapEx expected in the back half of the year. Are you able to give a full year CapEx number for us?

[Richard Perron, executive]

I'd rather not, simply because we're currently assessing what we're going to do in terms of next capacity expansion at AZUR and depending on our final decision, we may have to do some capital expenditures later this year, okay? But it's going to be definitely much less than in the first half. In fact, the first half was where we expected it to be after 3 quarters, okay? So essentially, we told the team not to decelerate any projects. If anything, to accelerate at all and get them realize ASAP, and that's what they've done.

[Gervais Jacques, executive]

And if I may, Michael, what we're doing, we've been working on meeting the demand, working with key customers to develop the pipeline of opportunities. And now what we're doing is we're moving from being option-rich to option ready. Then we're looking at what we can add in terms of equipment to increase our capacity and remove some bottleneck. Then the team has been mandated to come with options that will allow us to unlock new capacity. Then this is why we -- if we have a good investment, a very good investment with a great return, we'll do it.

[Richard Perron, executive]

And just in a few words. CapEx, same thing with -- for CapEx and same thing for the inventory. We have the orders on hand. So we don't want to take any risk there. Okay? So we're going to have a bit more and -- a bit more CapEx and earlier in time than maybe could have optimized and same thing with inventory. We'll bring on board a little bit more earlier in time because everything is sold.

[Operator]

Next is a follow-up from Adam Schneider at Cormark Securities.

[Adam Schneider, analyst]

I just wanted to touch on working capital again or touch on that. So it was a drag this quarter, and that's expected given all the growth you've booked. How much inventory do you like to keep on hand? And is your order book -- and is it your order book for the next year?

[Richard Perron, executive]

So the next year, we're going to have a bit more volume, as you know. And as I just mentioned, we brought on board inventory a bit earlier in time than we acquired because now we have the contracts, we have the sales confirmed. It's not going to be materially higher because again, as I've said, we've done a fairly big jump. It's a relatively big jump between December and today, and we have done a smaller jump in the last quarter of last year.

So going forward, it's going to be -- you're going to see some highs and lows, but we've reached the high end, let's say, of that inventory position. We don't need to -- we definitely don't need to carry a lot more unless we find it opportunistic and it secures demand forward.

[Adam Schneider, analyst]

Okay. That's really helpful. And just 1 more quickly, touching on performance materials, which underperformed this quarter from a margin perspective. Is that normal quarterly volatility? And can we expect margins to get back above 20%? Or has there been a structural change for that segment?

[Richard Perron, executive]

You're referring to the -- now you're moving from gross margin to EBITDA margin I assume. Is that it?

[Adam Schneider, analyst]

Yes.

[Richard Perron, executive]

There's -- from a product mix improvement and a yes, that margin could get much closer to 20% forward. But we're now -- what we see in Q2 from a gross margin between specialty and performance materials. This is much more aligned with our expectations forward for all of the reasons that obviously, our specialty semiconductors is particularly doing well.

[Operator]

At this time, gentlemen, we have no further questions registered. Please proceed.

[Richard Perron, executive]

Okay. Well, we'd like to thank you all for spending the time with us today, and have a nice day.

[Gervais Jacques, executive]

Thank you.

[Operator]

Thank you. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for participating. And at this time, we ask that you please disconnect your lines.