Bodycote plc (BOY) Earnings Call Transcript & Summary

Good morning, everybody, and welcome to the Bodycote interim results presentation. I'm Stephen Harris, Chief Executive. And I'm here with Ben Fidler, our Chief Financial Officer. The order of play here this morning. I'll give a quick overview, and then we'll hand over to Ben, who'll do a financial review. I'll come back and do the business review, and then we'll go into the summary and our outlook. So performance in the first half, I think, was pretty strong, and it's always pleasing when you beat your own expectations, which is exactly what we did in the first half. And you could see revenue up 17.2% and at 13.8% at constant currency. Now what we'd like to do is focus on growth, excluding our energy surcharges because that's a much truer indication of what the underlying momentum in the business is, the energy surcharges, which we'll talk a little bit about in a minute, but effectively, there, just a pass-through issue. So if we take the surcharges out, you get a much better view. Headline operating profit was 23% higher at 62.8%. And operating margin, excluding the surcharges, up 180 basis points to 16.5%. The headline operating margin is up 90 basis points to 15%. Very pleasingly, free cash flow, cash flow conversion 90%, getting back to where it should be in this company. That's something that we've seen in the past a lot, and we'll be going there and further forward. And then finally, on this slide, the interim dividend, we're talking about 6.7p. That's up 5%. So first half, one of the great things about it is we've been progressing on all of our strategic priorities. So this is a very broad-based set of performances. We're across all metrics and across all our strategic priorities. And just to remind people what they are, Specialist Technologies, very high-value businesses, Emerging Markets, Civil Aerospace, and Electric Vehicles. In half 1, we've been investing in specialist technologies for a while, and they delivered a 13% growth with adoption and market penetration continuing to accelerate. And these numbers I'm quoting here are all excluding surcharges, okay? Emerging markets up 10%, it's very good. And we continue to invest in that to further drive our capacity and follow the growth that we're getting. We got 10% growth in Civil Aerospace. I'll say at this point, and I'll come back to a bit later. Tad disappointed in that, and we'll talk about why it wasn't more because we want to see that somewhere up in the teens. And we recently secured some major electric vehicle contracts, which I will talk about quite a bit when we get to that section of the presentation. And our carbon initiatives carrying on very strongly. We'll probably talk a lot more about that at the final results at the end of the year. But at this point in time, just to tell you that, that is progressing and progressing well. So just a reminder of what we're doing with surcharges and price increases. So surcharges are there to cover the utility energy cost increases. It's not oil. It's gas and electricity. And we made a decision, basically, at the end of '21, to be honest, that we would put through these. We did not try and get a margin on the surcharges. We should be viewed pretty much as an energy intermediary. So whatever cost we see on the energy side, we just passed them through. That protects us from the highly volatile energy inflation. And I'm happy to say that our customers have accepted it readily. I mean, there's been no real problem there. One of the issues is they know that when they go down, they will see the prices come down. What their customers are more resistant to there's massive price increases to cover this stuff. So when we've told them this is a variable surcharge, it's been well accepted, well adopted. And we fully recovered our energy costs in the first half, which it wasn't the case, of course, last year, and Ben will show a bit more on that. Price increases. This is a nice one. Actually, somebody said, Are you getting any pushback on price increases?" What I got to tell you, in my career, you always get pushback on price increases. I've never had a customer say, "Thank you very much for the price increase." So you always get pushback, but we always get them through. Bodycote is a company that actually does very well on its pricing. The price increases that we put through container margin, good margin, and they're there to recover our labor and other cost inflation. And they are permanent. We don't expect those to reverse at all. And then looking at the impact on headline operating margin. And the dot blue line is excluding surcharges. And basically, as you can see, 180 basis points increase in that, and this margin should and will exceed 20% over the medium term. And you can do the math on that. It's quite straightforward. We took GBP 30 million out in costs during the restructuring in 2020. And if we get back to the same volumes, which we will do, and we can see how that's coming through, that puts us over 20% on its own. Never mind the mix change that we're going through in terms of the movement to higher-margin parts of the business. With that, I'm going to hand it over to Ben, and I'll come back and talk to you later.

Well, thank you, Stephen. And just to add to mind, good morning, and welcome to all of you. Thanks for your time this morning to go through the numbers. I'm now going to spend a bit more time stepping through the financials in a bit more detail. And on this first slide, a reminder just of the key metrics in one place as to our first half performance. Revenues, as you've heard from Stephen already, GBP 420 million. Those were up around 14% on a constant currency basis. Excluding the energy surcharges, revenues of GBP 391 million, which was up 8% at constant currency. On that higher top line, we delivered strong headline operating profit growth, operating profit up 23% year-over-year to GBP 62.8 million. Margins, as you've already heard from Stephen, on an ex-surcharges basis, up 180 basis points to 16.5%. After broadly unchanged financing costs versus the first half of last year and a modest 40 basis point increase in the tax rate to 22.5%, you see here EPS of 23.8p, which was 25% higher compared to the first half of last year. I'd expect a similar 22.5% tax rate for the full year. And on that, the interim dividend was raised just under 5% to 6.7p. Cash performance was very strong. Free cash flow up 77% in the first half to GBP 56.2 million. We'll talk more about that and the other items now. So let's now step through the drivers of revenue growth. And there are really 3 main elements I want to talk through to take you through that. The first, volume, price, and mix, which you can see from this chart here, added GBP 27 million to the revenues in the first half. That's that growth at 8% that we talked about on a constant currency basis. Secondly, energy surcharges, GBP 22 million higher than the first half of last year in total at GBP 38 million of contribution to the reported revenue number. You'll recall that in the first half of last year, we started to implement the surcharges in the first quarter, and therefore, there was a bit of a lag early in 2022 as these surcharges ramped up. The same effect wasn't in play this year, with surcharges in place for the full 6-month period. Surcharges are now reducing from their peak, reflecting lower energy input costs, and we'll continue to move broadly in line with energy prices as we move forward. Finally and thirdly is the driver, FX. You can see here that added GBP 12 million from FX translation to our reported revenue growth in the first half of the year, largely driven by the year-over-year rate movement in the euro and the dollar versus sterling. Worth noting that at current FX rates, and of course, who knows what's going to happen with FX rates? But if current FX rates are maintained, we'd expect that to potentially become a modest headwind in the second half on a year-over-year basis of potentially GBP 15 million to GBP 20 million. But of course, who knows where those rates are going to? Let's move to look at operating profit. Headline operating profit well ahead, 23% up to GBP 62.8 million, so just over GBP 12 million of profit growth that we achieved in the first half, a strong performance, we think. 4 drivers of that. Firstly, nonrecurrence of that GBP 5 million profit shortfall we suffered in the first half of last year due to the lag effect in implementing surcharges in 2022. Secondly, around GBP 12 million of additional profit that came from higher volumes improved pricing and mix and also that reflected nonrecurrence of the GBP 2 million of inefficiency that had impacted the first half of last year, for those of you who may well recall us calling that out in H1 2022 from the unusually high level of demand volatility last year that didn't recur. The third driver was a headwind of just over GBP 5 million from higher share-based payments and bonus costs. We flagged that in March with our full-year results as an expected headwind for this year, and we've started to see that in play out as expected. Just remember, these have been unusually low in 2022. And so this year, what you're seeing is the charge return to more normalized levels, reflecting improved business performance. And the fourth item to mention is FX, added GBP 0.8 million to profit in the first half on translation. And again, that point about at current rates, if they maintain, do just bear in mind that potentially that could be somewhere between GBP 3 million to GBP 4 million of headwind year-over-year in the second half if current rates stay where they are. Let's turn now to look at the divisions. Firstly, AGI, which, as you know, is focused on automotive and general industrial sectors. That saw revenues up 5%, excluding surcharges. Good growth in automotive, more modest growth in general industrial. Stephen is going to talk more about those trends and things later. Profit and margins at AGI were good, with operating profit up 24% to GBP 43.7 million. Worth noting that, that level of profit is 10% above the first half of 2019 level despite revenues still being modestly lower than they were pre-COVID. And that, we think, really highlights the progress we've made, the good progress we've made on delivering operational improvements, and the benefits of that 2020 restructuring program that Stephen alluded to in his opening comments. AGI margins were just over 18%, up 150 basis points year-over-year, and now sit 210 basis points above their H1 '19 pre-COVID level. Margins, excluding surcharges, were just over 20% in AGI. ADE, our aerospace, defense, and energy-focused business, saw good top-line growth. Revenues up 12%, excluding surcharges, driven by very strong progress in oil and gas and good growth in civil aerospace. Operating profit 35% higher, with margins up again over 200 basis points to 17.8%. Margins just over 19% on a pre-surcharge basis. Excluding the impact of acquisitions, ADE volumes are still well below their pre-COVID level. And we're confident of further strong progress here as civil aerospace demand growth continues for a number of years in the future. Cash flow. We achieved a significant improvement in cash flow in the first half, and I think this is an interesting and important performance feature in H1. With operating profit to free cash flow conversion back to our more normalized type of levels of 90% compared to 63% in the first half of last year. Free cash flow increased from GBP 31.8 million. You can see on this slide to GBP 56.2 million in the half. And there were 2 main drivers that I'd call out behind that. Firstly, high level of profitability. EBITDA was up GBP 12 million year-over-year. Secondly, significantly improved working capital control with a much lower working capital outflow of GBP 8.5 million compared with GBP 18 million of outflow in the first half of last year. The principal driver of that was better receivables management, with DSO days sales outstanding improving year-over-year. And that improved cash flow is delivered despite a 15% increase in maintenance CapEx expenditure up to GBP 28.4 million as we spend more to improve our equipment uptime and our efficiency. Cash tax, always an interesting topic, I know, was lower than normal in the first half that reflected a refund of U.S. tax relating to prior years. Just note that effect won't recur in the second half. So when I'd expect a much more normalized level of cash tax to be paid in the second half compared to the second half of last year. After a significant increase in expansionary CapEx to GBP 12.4 million to drive future growth after paying GBP 28.5 million of dividend in the first half and GBP 12.2 million of share purchases by our employee-based trust to satisfy future share-based payment needs, our net debt fell by GBP 6.8 million to GBP 26.6 million, excluding IFRS 16 lease liabilities. So with little leverage, with good ongoing cash generation, I firmly believe we've got really good optionality to drive shareholder value in this business. We'll continue to approach this in a disciplined way, where rightly all uses of capital will compete with one another, looked at through the lens of risk versus return. This will include increases in expansionary CapEx to drive growth in returns, dividends, acquisitions, or supplemental shareholder distributions if we find ourselves in an extended period with a level of net cash on the balance sheet that exceeds the business' needs. I'll now hand back to Stephen to talk to end market trends and outlook in some more detail.

Thank you, Ben. So I just want to move on to talk about specialist technologies to start with. This is a slide that's just to refresh people that aren't that familiar with the company as to what our specialist technologies are all about, highly differentiated, high-margin, high-growth business, and low carbon intensity. So all the plus points one would want of the business. And if we look at how specialist technologies are performing, so we got really good growth going on in the specialist technologies arena growing across -- right across our end markets here. And a lot of this is coming through increased sales and marketing efforts, driving the market penetration but also increasing cost of customer adoption as they become more and more familiar with what these things do. So good performance in terms of growth for sure in the specialty technologies. And if we look at that in terms of progression, you can see here from the bar chart the progression over the years. Interesting to note that there are not very high surcharges in Specialist Technologies. The reason for that is there are quite a lot of long-term contracts in this area of the business. And so you can't put surcharges through as a matter of course, or even though we have, in fact, now negotiated some going forward that will improve the situation. So minimal surcharges going on there. On the right-hand side of the slide, you can see that the specialist technologies are actually well spread, and some people weren't going to realize that the largest proportion of the specialist technology is actually in general industrial. They aren't necessarily focused on automotive or aerospace and defense. So a lot of presence in general industrial. And you can see the kind of growth that we're getting there with 17% growth in the general industrial piece. We are continuing to expand our investment in this arena. So we see some examples, S3P, our stainless steel business, expanding capacity in the United States and the Nordics, hit capacity. We've got a whole bunch of hip expansion going on in North America at several locations. Our corridor capabilities. This is ferritic nitrocarburizing as it's known technically, New capabilities of that in China and low-pressure carburizing, particularly in Hungary, and we'll talk a bit more about low-pressure carburizing when we come to the automotive slide. And we've got new surface technology capacity going in the Middle East, specifically at the moment in Saudi Arabia. Now moving on here, just to point those of you that have studied the AGM statement, you'll note that some of these areas here are actually slightly lower growth in May and June. You can pull that out for the numbers. But actually, that is really a case of lapping some stronger comps. The growth itself isn't weak. It's just that they're compared year-on-year with some stronger comps. But the emerging markets growth, excluding surcharge, 10% is pretty reasonable. And the emerging market is just so that they are well above the group average in terms of margins as well. So this helps with the mix shift. Strong progress in Eastern Europe, up 20%. China has been a bit restrained. So we were getting a bit overexcited, thinking China would explode after they took the COVID locks off, but that hasn't happened to date. No reason to see why it wouldn't pick up going forward. But so far, it's been modest growth in China. We're now expanding capacity in Slovakia and Hungary, quite strong expansion there. And we've got additional facilities going down in Turkey and China. And somebody asked me the question, well, if it's slow growth in China, why are you putting an additional facility? Well, we put in facilities because we expect future growth to be very strong. And in fact, we've got one new facility going in, in China right now. We would expect to put more because the growth pattern in China will keep going. As far as we are concerned, it looks very good. And you can see the spread there in the emerging markets as to where we are. Moving on to Aerospace and Defense. So Civil Aerospace revenue up 10%. And we've got ongoing increases in the OEM build rates on the aircraft, which is good aftermarket, particularly out of the U.K. out of roles. And the only sort of downside on this whole thing is that North American growth has been pretty weak compared to what we would have expected. And that has come through people talking about supply chain problems. We've done quite a bit of work to try and find out what that's about. And it seems to be 2 issues. One is a shortage of casting capacity at the front end, so the raw material side. That actually affects build rates something like 18 months to 2 years out in terms of the platform build. The bigger problem that we've come across is that most of our customers have got acute labor shortages. They can't expand the labor. Now we would expect to see that starting to ease in the second half. That's what we've been told, which will be a good thing. But so far, North American Civil Aerospace is not looking so great. A point on Civil Aerospace, even with this huge growth ahead of us, we still are some 25% below pre-COVID levels on an organic basis. So there's a lot to go for in the Civil Aerospace world. And we've got good positions on the platforms, particularly on the LEAP engine series. Automotive. So this is a very interesting story, somewhat stronger than we were expecting. We didn't really expect to see the kind of strength that we have seen, particularly in Eastern Europe and Specialist Technologies. Somebody asked me about destocking for Automotive and where we are seeing it. And the answer is emphatically no. I think what you see in terms of destocking if there is any, is really the raw material side of life. Where we play in the supply chain is far more near the finished goods. And when you've got that much conversion costs in the products, people don't tend to hold stocks of that. So there's very little inventory that's held in the kind of things that we do. So if there is destocking, it's way, way back towards raw materials. The kind of stocking issues that we get concerned about are actually in finished goods. So if there were lots of cars sitting on the lots, that would cause us concern. But truth be told, they're actually building -- the finished goods inventory is building, but it's still way below historic norms. So no destocking issues that we can see at all or are expecting in this arena. Heavy truck and bus growth driven in Western Europe for sure. European car and light truck being a little softer, North American, pretty strong, and Eastern Europe really, really good. I just want to talk a bit now about electric vehicles. So we've won some contracts, major OE contracts, specifically for battery electric vehicles for Mercedes and Stellantis. And there in Eastern and Western Europe, we're currently in the preproduction stage. We would expect to go start of production in Q1 next year, and we will be seeing those revenues go up to an annualized GBP 15 million by the end of '24, and that's an explicit contract for 5 years, and we would expect extensions beyond that. I can't be exact with the number, to be honest, because it very much depends on how the models that the platforms are on how well they penetrate the market. But provided the cars will be selling quite a few components. What are these components? They're on battery electric transmissions, gearboxes. So anybody who thought there's not a gearbox in an electric vehicle, I'm sorry about that, but we're doing work on them. And I think there are some interesting points to draw out on this. Electric vehicles are becoming one of the most significant opportunities for this company that we've seen for years. Let me tell you why. It's low-pressure carbonizing, one of our specialist technologies with all the things that goes with in terms of implied margins, and there are very good margins on this work. We are, by miles, the market leader outside of the in-house capabilities of the OEs in terms of low-pressure carbonizing, which is why people come to us for it. We knew what actuary electrics were coming through or electric vehicles in general because they favor low-pressure carbonizing for all kinds of technical reasons, we knew we should be seeing greater market share, and therefore, it presented an opportunity. What we weren't aware of to the degree that we are now is the fact that if you take an internal combustion engine transmission, 16, 17 components that we're working on there in the gears and look at what that is in terms of a battery electric transmission, it's only 4 parts. So a simplistic view might think that actually or you're going to lose business. But the truth of the matter is the parts in the battery electric transmission require much higher torque. They've got to be really quiet, so low distortion to a far greater extent than you see in an internal combustion engine. And the net result is that this is 5 to 6x the amount of heat treatment required for those 4 components than all the components that were in the internal combustion engine. And that's a really good opportunity. So not only are we going to get more market share, but the amount of capacity that's required in battery electrics is much higher. We've got the technology. It's really a really strong opportunity. Often we've talked in the past about in-sourcing and outsourcing, and outsourcing is very difficult to do. I mean, people have invested, and it's very difficult to do. But when there's a structural change in an industry like this is, what you can do is catch it before it goes in-house. And there's no great desire from the OEs to take this stuff in-house. And we know how to do it. So we're sitting literally at the gates of quite a major opportunity on battery electrics, which is good news. Now then, moving on to general industrial. General Industrial. So oil and gas and medical, 40% growth, very strong, expected, I guess. We don't see that reversing in the near term. So very, very good business going on there. 2 of the segments that we have talked about in the past have been leading indicators are tooling and industrial machinery. And what we've said about tooling is it tends to be an early indicator for automotive production. And what we mean by that is that if you're going to see an inflection point in automotive, you should see that inflection happening in tooling ahead of time. So when tooling turns up sharply 6, 9 months later, you'll see automotive go up and vice versa if tooling goes down. We're not in that phase at the moment. Tooling steady. It's not going up or down. That would suggest that we're not expecting an inflection point coming in automotive. So that's good. Industrial Machinery is more of an indicator of the CapEx cycle, and industrial machinery has been fairly slow. That tells you that people are being hesitant on capital expenditure. Just make a point on that. In general industrial, we have seen destocking going on for about 7 months. The question is, what's the outlook look like? Because clearly, the industrial machinery would suggest there's caution about it. We do our own in-house PMI, for lack of a better word. We survey our customers every month. And we don't ask them about us because they never really tell us how much business they're going to give us truthfully. So they give us numbers, but there's no point asking them for that. We ask them how their business is doing. And then we produce a heat map and see how the world is going from our customers' perspective. And what we've seen lately, particularly in North America, is increasing confidence. I think there was quite a lot of fair recession in North America, and that fear of recession is definitely easing. So we should see industrial machinery start picking up, I would think, as a result of that. And for us, of course, destocking is not a good thing. But when destocking stops, we don't necessarily need people to restock. But what happens is our sales shoot up to their production levels. So an end of destocking would be extremely good news if it comes. And as I say, there seems to be an expectation that things are getting somewhat rosier. Not terribly bullish about it, but certainly not negative. And just to point out that here, revenue is 9% above pre-COVID levels already in general industrial. So if we look at the key achievements, strong first half performance, doing well with the energy surcharges doing well with the pricing. Don't expect that to change. The test on the energy surcharges. People say, well, when are they going to disappear? A lot of it's going to depend on the winter. We get a hard winter, we're going to see energy prices go up in Europe, I would think, and that means our NG surcharges will go up. We've got 8% underlying revenue growth achieved in the first half, and that's being driven by Specialist Technologies, up 13%; emerging markets, up 10%. Civil Aerospace, up 10%. These are all high-margin areas of the business led by Specialist Technologies, oil and gas up a spectacular 46%, and automotive, not too shabby, up 8%. So as I said before, we're delivering on all our strategic priorities. And I see absolutely no reason why this company won't surpass 20% margin in the medium term. So here's the summary on that. Look, I don't intend to read it. It's there in black and white. The only thing I would say is that our first-half performance gives us a lot of confidence that the second half is going to be a repeat of the first, and we should be in reasonably good shape. With that, we'll go to Q&A.

Just a few from my side. So you talked about this great growth opportunity in automotive. So can you quantify that a little bit more? Can you talk about how much investment you would need, how much sales you could think this will lead to? And then as well, circling back to something that we talked about last time as well, the carbon reduction that was, well, on the forefront of your marketing, where you won some contracts as well with carmakers as far as I remember. How is that getting on? And are they basically complementary marketing pictures to your client base?

Sure. Okay, Stephan. I'll address that. On electric vehicles, indeed, the capital investment required to capitalize on that, it's reasonably chunky. So you would see $15 million of annual revenues probably takes something like about GBP 18 million of investment. It's that kind of order of magnitude, maybe even slightly more. The reason we didn't do that for this is we already had the capacity. And we still got some capacity left, which we're using, but we are getting into the stage where we're looking at starting to preorder some of this capital equipment. It's not so much the price of it because you can get the returns quite easily. And the problem is lead time. The lead time is quite long. And with everybody fighting red claw and tooth in the EV market, having the capacity is a winner. So we should be looking at getting that in. Sales opportunity. Well, we've got 2 vehicles with one type of transmission that's giving us GBP 15 million just for Europe. You can see it could be really spectacular, actually. This kind of stuff could go very, very well, 4 components, and you get GBP 15 million a year out, not bad. In terms of the carbon footprint issue, well, number one, they do go hand-in-hand because low-pressure carburizing is, by definition, a low-carbon intensity process. It's one of our specialist technologies low carbon footprint, and that's an additional part to the sale. So we did have some of demand issues because this is the only project we're working on. We've got a whole series of them. And people say, well, can we do it in atmospheric carbonizing, which is a much, much higher carbon footprint? And so part of the sales purchased that, you get a better product, particularly on the distortion. The distortion really matters on electric vehicles because if you get distortion on the gears, that causes noise and vibration. And of course, on a silent electric car, it's pretty nicely having a gearbox that actually makes a noise. So it's got to be absolutely distortion-free. You get that with LPC, a low-pressure car. You don't get that with atmospheric carburizing to the same extent. So yes, the carbon standpoint, a big part of the cell and very substantial opportunities, I think.

Just wanted to follow up. So what is the solution of the car mix at the moment? Because obviously, there's a big electrical vehicle producer with models out there. So is it internal solutions so far? Or is it like the ramp-up in the models that you see that is now bringing that opportunity to you?

So a combination. I mean, one of the things is that Tesla actually doesn't tend to use much in the way of transmission. So they haven't had -- they've come across this situation. They are moving to it, I'm told. But up to now, they've not really needed it. There are people that -- the people that have been launching so far have predominantly been doing it in atmospheric carburizing. So it's now that the low-pressure carburizing is starting to take off because the through-life cost of low-pressure carburizing is much, much less than the atmospheric carburizing. I hope that answers your question.

I just have 3 questions. Just coming back to the margin within Automotive. Can you just give us a feel for the EV margin versus IC? Is EV twice what IC is?

It's not about the model. It's about the process. So if you look at our AGI margins, automotive margins around that, which is mid-teens basically and sometimes lower. Having said that, we've got some outrageously high ones. But the Specialist Technologies, those margins are 30%. So that's the kind of differential you're talking about.

Okay. And then just in terms of Aerospace, you didn't really touch on defense. Can you talk a little bit about what you're seeing there? Are you starting to see...

So it's up. Interestingly enough, it's up quite a bit in Europe, but it reminds me of the exact number. I think it's 30% up in Europe or whatever, but hardly anything in the U.S. Overall, was it 6.55%?

Was up 5.5% constant currency in H1.

Which I find surprising in the current environment, but that's actually the situation. And I'm being told the problem is getting Congress to release funds. It's a big issue in the States. But I'm not a defense expert. I don't know. Those are our sales.

And just the last one, just on the leaf. I think GE was saying that they're looking to deliver 50% more LEAP in '23 versus '22. How does that come through to you? Does that essentially mean that your activity within that goes up 50% or...

If they achieve it, yes.

Okay. So it's a direct fee.

If they achieve it, you won't believe the problems they've got right now, but I can tell you, they really got some issues. They really got some issues. So I hope they do. We're not banking on it.

I suppose General Electric having problems with LEAP. There are nothing in comparison prints on GTF. But are you seeing any -- presumably, you have the capacity to meet any additional incremental demand in the next sort of 18 months? Has that been communicated to you at all? Is there anything that you can...

You're talking specifically about GTF?

Yes.

Unfortunately, we have very little presence on GTF. Certainly, there are shenanigans about the problem they've had recently that has nothing to do with us and won't affect us. In some ways, it might affect us because we're waiting for GTF to ramp up. We've got -- we're sitting on the contract to come to us. When they do ramp up, it's going to be in specialist technologies in hipping, -- but as yet, it's not really a broken cover. So GTF is a promise for the future. Not now, we're not actually banking on anything on GTF yet.

Great. And then can I just clarify your comments on the March -- 20% margins and how you think you can get there? Did you say on volumes alone, but presumably, a lot of those volumes are in Aerospace, where the mix of specialist technologies is greater? So just trying to get a feel for what you think is volume and what is mix.

Mix aside on pure volume increase getting back to pre-COVID volumes in aerospace and auto. Actually, we're already there in GI. That will get us over 20%. The mix issue to go to specialist technologies and emerging markets, that will drive it again because, in both issues, you're talking about margins at around 30%. So that's where you'll get it. So you can get to the 20% level without any mix change.

Just about the EV competition, I guess, backdrop. In terms of outsourcing their contracts because they haven't got the insourcing capability. Are you basically the only play in town, given your capacity?

It would seem at the moment, yes.

And am I right in assuming that once Mercedes and Stellantis and whatever platforms they're putting them on, it becomes successful? We can get this kind of stable effect when other people will want to -- other platforms will need it, et cetera.

So well, I think the -- it's right across the piece, there are people looking for this to go in. It's not a case of people saying, "Oh, they're doing it. We'll do it." They're all looking for it. I think what we -- the way this is going to settle out, and we were talking about this earlier. They will want some in-house -- so maybe 20%, 25% of the capacity will be in-house because they want to be able to develop and to learn everything. But essentially, a vast majority of this is going to be LPC. And if they can get someone to do it, which we are quite prepared to do, then we'll get work out of it.

And just broadly on the social stack. In the slide, you talked about sales and marketing. I'm assuming that's literally more feet on the ground and effectiveness. Smarter and better and more -- does that continue? Or have you kind of made your big...

No, no, it continues. A lot of it is actually not just people. It's the strategy associated with it because there's a fair amount of strategy when you're doing something where you've got a fairly unique, almost unique proposition that customers haven't heard about and how you go to market and how you compete against different technologies in terms of alternate pricing and stuff like that. I mean, there's quite a bit of strategy behind it.

Okay. And then 2 small ones. Specifically on hip, are you investing now for 2 to 3 years' time? Or have you invested 2 years ago, and you're now seeing the bot?

So we are now deploying hips we've already got -- we will need more hit capacity in 2025. And so we're going to have to start investing for that fairly soon, too.

Okay. Super. And then lastly, on M&A, I sensed a renewed enthusiasm for the M&A pipeline, quality of assets, whatever it may be 6 months ago. Where do we sit now? What's that pilot look in...

Well, unfortunately, M&A is one of those things which I have no idea how to forecast. If we can get other parties to dance our tune, then we'll do some M&A. If we can't, we're going to be in a position at the end of the year where we're going to be asking ourselves what do we do in terms of supplemental distributions.

I have actually got one for me. I've got several, please. The first is just looking at the North American margins in both divisions. Obviously, they lag the other regions. And just looking at North American ADE, margins are flat half-on-half. And I'm guessing that comes back to getting labor and issues like that. Is it...

Volume as well. Lack of volume is...

So it's just simply more volume drop through those margins go...

It's the primary driver.

Okay. So is that a sort of hit utilization issue? Because obviously, you've got a hit coming on, and that's meant to be a higher margin.

No, it's not really anything to do with it. It's mostly to do with classical heat treatment. And it's just flat. I mean the business is flat. If there's a bit more margin came through -- sorry, a bit more volume came through, you'd see it fall to the bottom line very quickly.

So it's just the quirk of revenue timing and stuff like that. Okay. Just looking at the share payment lines in the P&L and then just noting the big share purchase and then thinking about share payment line going forward, I mean, is the -- I should know this. I don't. But is the share -- is the purchase of shares ultimately sort of then booked through as you allocate them in the P&L? And what I'm basically asking is what's the share payment line going to be?

Well, those shares, the EBT purchases, when they vest, that is when you see the effect come through both from a P&L perspective and also when you see it come through from -- it will come through in a direct feed basis over a long period of time. We're talking 2, 3 years here over the recent purchase. It will come through in terms of the share count numbers as well for your EPS calculations.

And then just to think about in effect of share payment, sort of almost self-financing of profit ratchets reached the sort of triggers shares. I know it's not absolutely perfect. But is that the way to think about it, we shouldn't think there's a sort of anchor coming through as the share-based payments go up. It drags on profit?

No, no. I mean it will continue to accrue through your P&L for, as always, for expected bonus and the cost of share-based payments, which are reflective of one's expected performance, both in year, which is the bonus element and the multiyear look, which is the share-based payment element because they are multiyear incentive structures here as they are in most corporates.

And then just thinking finally about, obviously, you've got the surcharges sort of beginning to roll over. Is there -- can you give any sort of hints or guides around how you sort of model that? Or we just shut our eyes to the way to be corrected in due course.

Well, let me have a first stab at it, and then Steven, you may want to add something to this. The first point is I can understand the challenge you have because, at one level, it is also the challenge we have when we're forecasting revenues going forward. That's why we focus much more on revenues, excluding surcharges. And from your perspective, I would say, focus on that, focus on your profitability, and then surcharges is the bolt-on afterward, which is largely irrelevant for all of the financial parameters that matter to you and the investment community, which are typically EBIT, EBITDA, EPS, cash flow, et cetera. It's a lot of noise that creates a challenge around forecasting the headline revenue number, but it's arguably an economic irrelevance for the underlying performance of the business. And I didn't answer your question, but it almost says, well, that's because who knows. Tell me where energy prices are going to be through the second half of the year. Surcharges added GBP 38 million in the -- with GBP 38 million in the first half. If energy prices continue to fall, that number will be smaller in the second half with energy charges. So prices go up, that number will be higher in the second half. I know that's not terribly helpful, but I can't forecast energy prices.

It's not a bigger number to put 20% on that or so. And then just, finally, confirmation on the EV contract. Just to be -- I know you made a breed. Be absolutely sure. The Stellantis and Mercedes contracts in isolation in Europe, 15 million a year for the next 5 years.

Yes, and then extensions thereafter.

But it is just those 2...

4 components.

Just again, helping us with the modeling, but in terms of breaking out that 8% ex-surcharge between volume and price mix there? And I just wonder whether there's any material difference within the pricing component between maybe spec tech and classic heat treatment, for example.

Not really. I mean there's less of a price increase in specialist technologies simply because they're on long-term agreements, but not materially different.

And just another question, if I may. Just in terms of capital allocation, it felt hearing you brand it almost sort of downplaying the chances in the short term of any allocation either through the old special divi or buybacks. You talked about an extended period of net cash before that perhaps would trigger. Can you just give us a sense of what an extended period might look like?

Well, look, I think the challenge and the issue is always that the balance sheet is something that we constantly review, right? And there isn't an absolute number, and there isn't an absolute period because it depends on the business environment that we're operating in. It depends on the state of the cycle. It depends on the perceived risks for the business of our end markets. It depends upon the pipeline of investment opportunities, both for organic investment and for M&A, of what we know will think is coming. So the challenge in answering that in a way with the clarity that you won is it depends on all of those parameters and what it's coming together at that point in time. But it's something we are conscious of, and the message we want to get across is that, that is something we are mindful of. If there is an extended period, that is something we will consider addressing and looking into dependent upon the investment opportunities that are coming along and the requirements of the business at that point.

And I think the important point here is just an outlook issue. It's not -- we've been sitting on it, okay? If we can't see in the future the use for it, that's when we do a supplemental dividend. So we fail on the M&A front, and we end up in a cash position, which is highly likely not the fail, but if we didn't do it, we get into cash. Then from that perspective, we can look forward and say, well, what other M&A opportunities are there? We might then turn around and say, well, we can't see anything within the next 12 months. That's an extended period on cash. So therefore, we do a supplemental.

I guess linked to that, just CapEx expectations this year and next mindful of the growing EV opportunity. Has there been any change there?

Yes. So no CapEx, which, as you know, we break out through 2 separate lines: maintenance CapEx and expansionary CapEx. First half maintenance CapEx was just over GBP 28 million, was I think GBP 28.4 million. I would expect a similar, possibly modestly higher number for the full year, but not much higher in the second half than the first half. As far as expansionary CapEx, you have spotted, that's gone up quite significantly in the first half, up by GBP 5 million or so to around about GBP 12.5 million for the full year, probably GBP 25 million to GBP 30 million of spend in total on expansionary CapEx. And again, it comes down to opportunity, though. If we win some additional contract volumes on new business or there's new opportunities for expansion, we will rightly allocate more capital to that, using, as we always do, a requirement of a 20% hurdle, the minimum hurdle in terms of return for those types of new investments.

Looks like we've exhausted the questions here. Thank you very much, everybody. Thank you for coming, and we'll see you later.