AQ Group AB (publ) (AQ) Earnings Call Transcript & Summary

So it's 9 a.m., and I'm happy to welcome you to AQ Group's investor presentation for quarter 3. Hopefully, my presentation will be very quick, as usual, and then you can -- we go into the Q&A, which is, I guess, why most of you are here. So first slide, we have a picture of our beautiful factory in Woj, Poland that we have newly expanded, and it is an additional 5,000 square meters. So if you take the AQ logo -- the bottom of the AQ logo and do a angular line there, that is the extended area. And we plan to build wire harnesses there for demanding industrial customers, and we have, as usual, a great demand for our products. So we're happy that we have some more capacity there. Let's see if I can skip the slides here, let's see. Okay. So first of all, why you should invest in AQ Group? So we have earnings per share CAGR of 15% over the past 10 years. We made profit every quarter since the foundation in 1994. We have fine exposure to industrial market segments with underlying growth, such as electrification, railway, defense. And then we have a long history of acquisitions, 2 to 4 factories per year on average, not so many in the last 2 years. But hopefully, it will come. And then we have a strong balance sheet with a very low net debt. So we move into the numbers for the third quarter. We think that we have very good growth and extremely good cash flow. Our net sales [Technical Difficulty] [ increased 26 ] % compared to the same period last year to SEK 2.1 million. Our operating profit -- EBIT increased by 63% to SEK 201 million, very good. We think profit after financial items, EBT increased with 61% to SEK 195 million, which is also very strong. It is equal to quarter 2. Our profit margin before tax EBT was 9.1%, which is very, very strong, quite -- way above our goal of 8%, which is nice. And profit after tax increased by 72% to SEK 172 million, because tax is also a cost actually. Cash flow from operating activities was SEK 339 million, which is an improvement of SEK 336 million from the same quarter last year, which is extremely good, and we're happy to see it. [ Net ] earnings per share before dilution increased with 72% to 9.34, almost double compared to the same period last year. Very nice indeed. We had cake here in the office today. And first 9 months, net sales increased with 33% to SEK 6.7 million, way above our target of 15% growth. EBIT increase is 75% to almost SEK 600 million. Profit after financial items, EBT increased with 66% to SEK 575 million [ and ] profit [ margin before tax ] EBT was 8.5%, which is also above our target rate. Profit after tax increased with 79% to SEK 500 million and cash flow from operating activity an astounding SEK 742 million, a very good job by my team. And earnings per share before dilution increased with 80% to SEK 27.25 which should make all our shareholders very, very, very happy. Equity ratio was 61%, which is really a lot above our target of 40%. Splendid. Earnings per share growth. I have now started to use this CAGR thing. And over the last 12 -- 10 years if you can see the rolling 12 months after Q3 2023, we are in 15%, a little bit above, 15.4%, which is in line with our targets. And as I said, we had AQ rocket cake this morning in the office because we are very happy that it has grown by 54% versus the same period last year, where we had margins that were not so good as they are today. Super. Net sales, we think we have good turnover in the quarter compared to the same period last year. However, it is lower than in Q2, which is a normal season deviation since there's a lot of holidays at our customer side and at our side during July and August. And we still have capacity and productivity constraints in Finland, Bulgaria and Poland. We're addressing those. And we see increases in almost [ all ] segments, but especially within electrification, defense, commercial vehicles, railway and marine, but it is across the board really. Organic growth was 17%, and I'm a little bit disappointed because we should have delivered more in the quarter. We can maybe get back to it, but I write a little bit about it in the report. We have delays to our customers, and we're not really happy with our quality performance towards our customers, which impacted our turnover in the quarter negatively. But still, 17% is really, really high. We have increases in all our market segments, as I said, and we're way above our target. So we have to be happy with the organic growth, but it should have been better. It will come in Q4 [ I hope ]. Acquired growth, we are way below our target of 5%. We are at 0. It is a bit disappointing, to be honest. We have several interesting prospects as I've said now for several quarters. We love to buy new factories, but we'd also like to buy them at a fair price. Our net debt is extremely low. Our cash flow is very good. I think you as shareholders should be disappointed if we have not closed any good deals before quarter 2 2024. But then again, I don't like to close any bad deals, so yes. But I'm positive. I think we can do something, but we don't like to overpay for what we buy. And that policy stays. We are not in a hurry in that sense, but we'd like to do something. And we -- I think we have some nice companies that we want to acquire, but we have to agree with the owners. Our margins are on a very good level at the moment. We are above our target for 3 consecutive quarters, and we are even above 9%. The main reason is that our worst performance -- performers in 2022. We have done a lot of work, me and my team, to improve those in terms of productivity, operational efficiency, purchasing so that they are making more profit than they did -- or more profit or less losses than they did in the same period last year. And margins would have been even better if we could [Technical Difficulty] [ have delivered ] everything that we should have, but that is a little bit normal as well, but still, we should have delivered more. [ We knew this ] we still have opportunities to improve in India and China, which is good, that we still have some improvement opportunities in terms of margin. But we are steadily within this range that we have and I'd like to mention also that historically, we've had for the last 30 years, a margin -- EBITDA margin of 7.4%. That's 30 years. The last 10 years, we've had an EBT margin average of 7.4%. And so I think our margin target of 8% is still valid. We need to prove that we can be consistently over that in order to increase our targets, okay? Inventory value and inventory turnover. Here, we see some improvement. We have now what I have promised that we should reach 3 in inventory turnover by the end of this year. I think we can go further, and it will, of course, impact our cash flow. You see also that the inventory is going down a little bit in quarter 3, which is a really good thing. And we're almost now at the same inventory level as our little brother [ Nota ], which is fun, I think, because we are twice the size. We are working a lot with this, and we will continue to reduce our inventory and increase our inventory turnover because it gives fantastic cash flow. And we want to have cash in order to invest in machines and companies and factories and in our people. So cash is good, as you know. And of course, this gives this very, very nice net cash flow from operating activities. And even our free cash flow is really good this year, of course. And you can see that also our net debt is now below SEK 200 million, which is a really nice level to be in when interest rates are high -- and/or high. They are normalized and they will continue to be normalized in my opinion. So it's good to have a low net debt. But on the other hand, it gives us very good operational freedom to invest where we need to, together with our customers, and maybe also to buy some company going forward. This is the, really the black spot in our report, in our KPIs. Our result for the quarter is 90.5% and it's really disappointed -- disappointing. We have made big investments in people, in training and increased capacity in machines, in new factories and so on. It is related to our organic growth, of course, but still we need to be more reliable. I mean, this is what we say. So we will work extremely hard now during quarter 4 and the coming quarters in order to improve this result because we cannot remain on this level. It is impacting our customers and we don't want that. We want them to be really, really happy with us. What we can say is that, in some cases, the delays are shorter, which is good, but we need to deliver according to what we promise. So here, we are doing strong actions now to improve. And the main focus is to improve quality because then we will get out the things -- we catch the quality in our own factories. But if we improve the quality in our own factory, then we can deliver more on time. But we also have productivity challenges in some factories and capacity challenges also in some other factories. But -- so it's a little bit factory-dependent. But here, we have a lot of work to do. And we are using our smartest people and most experienced ones. So I'm sure that we will improve on this going forward. It will also actually have an impact on our ITO, because if we deliver as we have planned, then our inventory turnover also becomes better. So this is really connected in many ways. Some projects for future growth then. I mentioned in the -- in my CEO comment, especially about this business. I think it's a little bit forgotten that we have this business area in AQ. And it's important that you, as investors, understand what it is and what we have done. So since 1994, we have been working with Transformers, then we acquired or it was a management buyout of ABB's transformer business. And we are working in niche segments of the transformer market. So we are not doing standard distribution oilfield transformers that you would use for the grid. We are into niche markets here that we think is very difficult to be in, but also it should be profitable and is profitable. So since 1994, we have acquired 14 factories or companies. Some have been design offices and so on. And our turnover for 2023 after September in this business area is SEK 1.7 billion. You will not see these numbers going forward. We will not follow them like that, but it is to give you how big this is in AQ. And we have factories globally. We have factories in China, 2 factories, 1 in India, 1 factory in Estonia, 1 factory in Bulgaria, 1 factory in Hungary, 1 factory in Finland and 1 factory in the U.S. And then we have design offices in Sweden, Finland, Germany, Italy, China, India, Bulgaria, U.S.A. and Mexico. Why do we have these design offices? Is it because in this business area, we do the product design. So customers come to us and say, we want to have this spec. It needs to be able to sink to have the product underwater. It need to be cooled by the air of a moving train. It need to be in a ship or in a military airplane. We get a very difficult specification with difficult size requirements, difficult material requirements, and then we designed this in our fantastic design office where we have tons of experience of designing these type of products. Why is this important? Because these things, if you decide them wrong, they burn. And if you have a military airplane and the product burns -- our product burns, then the airplane will crash or if it's in a ship, then we have the same thing, then the ship cannot operate. So it's really important for our customers that we design them in the correct way and produce them in the correct way. And in the niche markets we're in, I mentioned them -- several of them already. So on the bottom left, you see a typical railway converter. It has several filters that take away the noise or the dirt in the electrical current. You have several transformers so that you can run a lamp or whatever in a train and then we have these PCBA transformers. You see them on the bottom in the middle. They are very small things. They are sitting on circuit boards and so on. [ Today ] we have the most competitive alternative in Europe, at least, that is non-dependent on China, at least, in -- and it is really complicated products. They're really small, but it's important for the circuit boards to work. And these things are also in machines that control motors and so on so that they can run in an efficient level. You see them on the bottom right. If you need to have an EV charger or you need to convert energy from solar or wind power, you need these type of products. So I think in terms of electrification, this market segment and the niches we're in, they are in high growth and they are super critical if we are not going to burn up this planet. So it is very fun, I think, market segment to be in. So we believe very much in this for the future. And one of the future thing is that also being commercial vehicles need these type of products. And often, they want to have low weight and they want to have very high specifications, which make it very difficult to define. And then there we come in to design these products and produce them for mining [Technical Difficulty], for trucks, for buses, for this type of yes, vehicles. So that will be a growth in the future, I believe. And we believe that we are in the top 5 in several of these niches globally, both in terms of design and manufacturing. So we are very proud of this business area, and we believe that U.S. shareholders should know and should be proud as well, that we are a transformer manufacturer. Okay. Electrification, I talked about last time. We are growing a lot in electrification, battery factory on the right, HBDC control cabinets on the left. These segments are growing. You know it. I told you last quarter as well. They continue to grow. It is fun. Railway also extremely important, I think, in the transition to a more sustainable society. We are receiving continuously new projects and we are working closely with our railway customers where we deliver basically to all the railway companies that are existing in the world today. Inductive components, control cabinets, electrical cabinets, drive controls, we do a lot for trains. We like trains. It is fun. I think -- another guy I know who like train is Warren Buffett. He has a lot of railroad stocks and these kind of things. But we like trains. Trains is good. Good business. Defense, maybe not as fun as railways, but it's also important to be able to defend yourself. And I had this picture also last quarter. We are delivering things to war ships, to troop transports, to military aircraft. We're delivering wiring systems, sheet metal parts, plastic parts and inductive components to these vehicles. And it's an extremely strong market at the moment, and we are growing very fast. It's a small part of AQ, but we believe it's a very important market to be in and this is really something how we can sustain our society that we live in. So I think it's very important and fun as well, very demanding customers as well. So we go into Q&A. And I will close the presentation so that I can see who is asking questions.

Let's see here. We have something maybe in the chat first. So we had one question called [ Balekulin ] Any churn as a consequence of late deliveries? So far, no. But of course, in the long term, there is a risk that we will have churn if we don't satisfy our customers. So I have another question on the same topic. You mentioned [ ansi so karet quality issue the CEO comment ], has this resulted in any lost business so far? That's the same question. No, I would say. And the thing is that normally, we work together with our customers. And as I write, we have experienced quite a big growth with new customers with difficult products, and we are working together with our customers to solve those quality issues, and we're doing everything we can in order to improve on our quality. Then again, many of the quality issues that we have, we catch actually in our factories and our customers don't see it, but they see it as late delivery since then. And I have another question, I will get to the spoken questions, from [ Marcus Ramswamey ]. Can you give some numbers of the size of the defense segment? I think we are moving into that becoming -- let's see now -- I will calculate a little bit. I would say roughly -- our turnover is roughly SEK 200 million. Then you can estimate -- but it's growing very rapidly. So it's a moving number, so to speak. But I would say, rolling 12 months, it will be roughly SEK 200 million delivered to the Defense segment today. But it is growing, as I said. Okay. We have some people raising their hands as well. Let's see. So we start with [ Karl ] then.

Yes, James. I hope all is good and congrats on a strong report. Just a couple of questions. Firstly, relating to the outlook. Maybe if you can comment if you can on which segments you see good growth in for '24, where you see less growth, so to say, just on the mix in your portfolio, where -- which is expected to grow and which is expected to see a slower market?

I think that we -- it is -- if we talk about the existing customer, existing products and nothing new, then I would say that MedTech is rather flat for us next year. I think electrification, we see a strong growth, as I tried to mention in the report. I think in the vehicle segment, trucks and these kind of things, I think it will be growth next year. That is my -- for us at least. We started some projects this year that -- so for sure, there will be growth next year as well for us because we're winning new products in that segment, even though pretty much this -- our customers, I think they will be maybe flat or growing a little bit. But I think we can grow more than our customers because we still have things to take there. I don't know any real market segment that is going down. Marine will also grow next year, for sure. See if there's anything else, and as I said, defense will also continue to grow next year. Yes, it is -- I think we have the capability to grow in all our businesses, and it is a lot to do with our decentralized model and our entrepreneurial MDs that are winning new business all the time.

Yes. And then maybe on the -- you mentioned some late deliveries. Are those expected to come in, in Q4? Or how should we see it?

Yes. I expect that the deliveries will come in, in Q4. And then, I mean it is also like this, that sometimes we're one day late. And sometimes, we are more late. So -- but I expect that they will come in, in Q4 and that we will be able to deliver out what we didn't deliver out in quarter 3.

Yes, it was mostly -- or the September, it looked like on the chart that was missing your targets, I guess, or the [ 2 first half ] was better in terms of delivery position, it looked like.

Yes. But it is just a percentage. So that can also be affected by delivered. So the thing is, it is more -- we can also get bad delivery performance on that chart by delivering low-value items, so to speak, or low cost side. So it's not really -- it's hard to measure that in money, but we have some bigger projects that have been delayed, and we're going to deliver out those now in Q4 together with [ all ][Technical Difficulty]. So it is good.

Yes. And on the cost side, I mean, margins, again, better than expected. What can you say -- what is the main driver? If we look -- I mean, of course, organic growth is a key driver to this, but the cost side, material, energy, et cetera, is that continuing to come down? Or what are you seeing there?

I think it's looking quite flat. Some things are going up and some things are going down. I think we will not any big increase. Then, of course, there is an inflation that will, of course, affect our -- but we believe that we can compensate that inflation with price increase so that we will be flat. So it will not affect our margins, I think. Then of course, we are always working on our cost side in order to get better. But the margin improvement we have seen is mostly due to improvements in our low performers where they have been low productivity, a lot of quality costs and these kind of things that we have managed to correct, which improves our margin in those companies and then improves the margin for the whole business then.

Okay. And on the cash flow, very strong, is it -- are you back to kind of normal working capital levels, you would say now? Or should we expect continued release from working capital?

I think that we are back to our historical normal in terms of working capital, but we think that we can be much better. So we are trying to move to 4 as a new normal and that will improve our cash flow and reduce the total risk in the company because inventory is risk and we don't like to have it as much as we have at least. Some inventory, you want to have and you need to have. But we want -- so we believe that -- we see that some of our companies are really super good at this. So we are trying to share those knowledge and improving the companies that are less good. I think there is still improvement to come. But you should notice also that the turnover is a little bit less in the quarter 3, then also the working -- the net cash flow from operating activities become a little bit better because we are not growing the accounts receivable at the same [Technical Difficulty] we're decreasing [ those ].

Yes. And then just the last question [ Id like to do ] you focused a bit on the active components side. And I just noticed that Trench, I think I don't know if I've pronounced it rightly, was acquired by Triton from Siemens. I'm just wondering, is that a competitor for you within this field? Or are you -- are they doing similar products as you, or?

What was the name, Trench?

Trench. I think they were acquired by Triton from Siemens Energy. I already looked like they did some transformers, et cetera, but we can we can discuss that offline later.

I can have a look. I mean, we are in certain niches of this market. I mean transformers, Hitachi is making huge transformers in Ludvika for instance, but we are not there. But -- so there is a different markets. So maybe they are a competitor that I don't know today. So we move to [ Steen Taran ].

James, congrats with very good results. So I think probably a few of your shareholders will have some cake today as well. So anyway, it seems from the report and your description and now in your presentation, that most of your segments are performing very well. And that's, of course, good. But I mean, listening to a few of your peers both following second quarter, but also, I mean, you've seen the profit warnings from a couple of your peers and the perception is that the environment is -- on the demand side is much more mixed now than it was couple of quarters ago. And I mean electrification is singled out by a few players as quite problematic now, whereas you described that demand as very good. But to dig a little more into it. You don't disclose the order book and your tender pipeline. So how would you say that, is the order book better than it was 1 or 2 quarters ago? And how is the tender pipeline for new business now?