Carel Industries S.p.A. (CRL) Earnings Call Transcript & Summary

Good afternoon. This is the Chorus Call conference operator. Welcome, and thank you for joining the CAREL Industries First 9 Months 2022 Results Conference Call. [Operator Instructions] At this time, I would like to turn the conference over to Mr. Francesco Nalini, CEO of CAREL Industries. Please go ahead, sir.

Thank you. Good afternoon, everybody, and thanks for joining our call for the presentation of the 9 months 2022 results. I'm starting from Page 2 of the presentation with the main highlights. Results in this last quarter have been consistent with the excellent trend of organic growth reported in the last couple of years. In fact, it was the seventh consecutive quarter with a double-digit organic revenue growth. On top of these achievements in organic results, we also accelerated our M&A activity with 4 deals completed in 2022 as well as our commitment to ESG as reflected also in our updated ratings that we will comment later on during the presentation. So top line growth in the first 9 months of this year was 29.3%. If we exclude the positive impact of the exchange rates and the contribution coming from the M&A activity amounting to approximately EUR 22 million, organic revenues grew by 19%. In terms of demand, we saw the continuation of a number of very positive trends. There was consistent strong growth in heat pumps, indoor air quality, efficiency of buildings, data centers, as well as in refrigeration. The group has confirmed its very strong execution capabilities, managing to take advantage of these very positive trends in spite of a still challenging supply chain situation and an increasingly difficult macroeconomic context. EBITDA margin in the first 9 months of this year was 21.4% of sales, slightly higher than the same period of last year and in line with the first half of 2022. We had this year approximately EUR 1.8 million of nonrecurring expenses related to our M&A activity, excluding which the adjusted EBITDA margin would have been 21.9%. This consistent good result in profitability in spite of cost inflation is due to operating leverage and to the execution of the actions taken on prices where the last price increase applied in July this year still has to deploy its full effect. As previously anticipated, we strengthened our M&A activity, completing 4 bolt-on transactions this year, we acquired 70% of the share capital of Sauber in Italy to strengthen our service business development; a further 30% stake leading to control of the joint venture Arion, focused on the design and manufacturing of sensors for OEMs to secure this critical strategic technology; 100% of Klingenburg in Germany and Poland, achieving a leadership position in Europe for heat recovery systems for ventilation; and finally, 100% of Senva in the U.S. to further strengthen our technological and market presence in sensors. We'll come back to these last 2 transactions in a moment. Let me just add that our pipeline remains still very active. So now, on Page 3, a few words on the Senva acquisition. Senva is a company-based near Portland, Oregon, specialized in the design, manufacturing, and sale of a variety of sensors for heating, ventilation, air conditioning. The sensor technology is increasingly critical as more and more areas for innovation come from the collection of data and the integration of sensors with the rest of our products range. And this was also the rationale behind the Arion deal. Senva makes sensors for pressure, humidity, gas leakage, indoor air quality, current and others, and are very present in the contracting channel in North America. They're fast growing and have a very solid know-how in terms of technology, manufacturing, and sales in this channel. There are many opportunities we can achieve with Senva. First, adapting their products to the OEM channel, where we have a strong presence around the world. Second, using their presence in the contracting channel for our products since so far we've not been very present in this channel in North America. Third, providing Senva with CAREL technologies, for example, in digital services and pressure sensors. And last but not least, develop our manufacturing footprint in the U.S. with the company having very solid manufacturing process and assets. 2021 revenues were approximately $13 million with a 12-month trailing EBITDA of approximately $3.1 million, and the transaction was valued at approximately 12x the EBITDA. On Page 4, for a comment on Klingenburg. With plants in Germany and Poland, Klingenburg is a leading brand in heat recovery is exchanges, especially the rotary kind. While Recuperator acquired in 2018 is strong in plate heat exchangers, the technology of Klingenburg is perfectly complementary and particularly suited to bigger installations. With these acquisitions, therefore, CAREL becomes the leading provider in Europe of heat recovery systems for ventilation. And this technology is very important for a number of reasons. First, the emission reduction programs of the EU aim at strongly increasing the renovation of existing buildings for increasing the efficiency and the indoor air quality. And by the way, heat recovery is fundamental in this respect and mandatory for ventilation units over a given size. It's also increasingly used in industrial process applications as well as data centers were opened together with an evaporative cooling system, which is also provided by CAREL. Finally, the rotary systems made by Klingenburg since they are suited to bigger installations are very promising for the North America market where big investments in indoor air quality are being made and where we intend to grow with this technology. 2021 revenues of Klingenburg were approximately EUR 30 million with an EBITDA of EUR 2.4 million, and the consideration for the business was approximately 5x the EBITDA. On Page 5, we see some more economic figures. In the first 9 months of '22, revenues were EUR 401.1 million, up 29.3% from the EUR 310.3 million of the same period in 2021. On the bridge to the top right, we can see that EUR 58.9 million were purely organic growth, then we had EUR 21.6 million coming from the M&A activity and EUR 10.3 million of positive effect from the exchange rate. Therefore, organic revenue growth without M&As would have been 22.4%. EBITDA at EUR 85.9 million was up 30.1% from the same period of 2021 corresponding to 21.4% of sales or 21.9% if we adjust for nonrecurring expenses related to M&A. Most of these nonrecurring expenses were incurred in Q3. So this last quarter EBITDA margin was 21.3% or 22.4% if we adjust for those. With very good profitability, in spite of the cost inflation, is due to operating leverage and the deployment of price increases that, as expected, are now pretty visible, but still not its full since the last price adjustment was done in July. Net profit at EUR 52.6 million was up 35.7% from the EUR 38.8 million of last year, thanks to the operating results, while the tax rate of 20.8% was in line with last year. Finally, CapEx at EUR 15.4 million were up 11.6% from the 13.8% of last year, in line with expectations and including the new plant in Croatia. Moving to Page 6. We can see the revenue breakdowns. To the left, the breakdown by region where we see continued strong growth coming from all of them. EMEA has a growth of 26.6%, net of foreign exchange, or 19% if we exclude M&A, which is in line with the first 6 months of this year. In EMEA, we basically had good demand and good results coming from all applications. In Asia Pacific, sales grew by 15.2%, net of the foreign exchange with a slight acceleration compared to the first half, mainly due to Southeast Asia and Australia. In China, while still growing, we see a deceleration due to the lockdowns, while other countries like India, Korea, and Japan had a very good performance. So basically, in Asia a good performance across the board, with just a deceleration in China due to the continued lockdowns, in any case, reporting and expecting significant growth also in China. In North America, we grew by 30.1%, net of the foreign exchange, thanks to very good performance in indoor air quality, industrial applications, data centers and also a good result in refrigeration. This is also thanks to improvements we made in our execution capability in the region. It's interesting to highlight that in refrigeration, as expected, we see strongly increasing demand for natural refrigerants in North America. In Latin America, we grew by 56.3%, net of the foreign exchange, mainly due to an excellent result outside Brazil, where we're making increasing inroads with our efficiency and natural refrigerant solutions. To the right, we see the breakdown by market. Both markets grew very well, but certainly, HVAC is outperforming our past expectations due to a structural acceleration in some applications like indoor air quality, data centers, and especially heat pumps where the REPowerEU program is driving a boost in demand. Interestingly, this is also supporting demand in Asia for OEM customers that export heat pumps to Europe. HVAC grew by 29.6% in the period, net of the foreign exchange. Refrigeration continues to see solid demand, leading to 20% growth, net of the foreign exchange, the strong transition towards natural refrigerants in Europe but now spreading around the world, is definitely a supporting driver here. And I'll leave it to Nicola to comment the items below EBITDA and the balance sheet.

Thank you, Francesco. Slide #7 details the group result from the EBITDA to net profit. The first 9 months of 2022 were impacted by higher D&A costs, mainly due to the M&A activities performed during [ last ] year, and a consequence of purchase price allocation process and the relevant investment in CapEx in the last years. In the period under review, the financial charges were higher compared to last year due to the financial effect of the full put and call option on CFM and the interest rate evolutions. The ForEx impact in 2022 was a loss for around EUR 500,000 compared to a loss of EUR 300,000 realized in the first 9 months of 2021. And it was mainly related to the group operation of the legal entity based in Italy and Croatia, and the relevant currency exchange pressure of the period. In September 2022, the result of the company consolidated with the equity method was a gain of EUR 2.3 million compared to a profit of EUR 0.5 million of the same period of 2021, mainly influenced by the fair value valuation of Arion. The tax rate of the period was 20.8%, [ still ] in line with last year. The group net profit of the first 9 months of 2022 was equal to EUR 52.6 million compared to EUR 38.8 million over the same period of 2021. Slide #8 shows the financial position evolution over the first 9 months of 2022. The flow from operation was strong and equal to EUR 71.3 million. The increase in net working capital was mainly driven by strong growth of revenues to a planned increase in inventory to better cope with the raw material shortage and to a seasonal effect in accounts receivables. It should be noted that the DSO in the end of September is in line with the same period of last year. During the period, the group paid dividend of EUR 17.3 million, and the net financial position was impacted by M&A activities, which implies a net outflow of EUR 14.3 million. At the end of September 2022, the net financial position of the group was equal to EUR 73.6 million. Taking out the accounting effect of IFRS 16, the net financial position with banks amounts to EUR 45.6 million, [ a level ] significantly below EBITDA. I'll [ move ] Francesco to go on with the presentation.

Thanks, Nicola. So on Page 9, I would like to take the opportunity to provide an update on our ESG posture. In fact, we are very proud to report that we've been upgraded by the MSCI ESG rating to AA from A. This shows the result of a continuous improvement process that saw the group start with B in 2019 and then consistently upgrade its position. Please consider that the AA rating puts CAREL in the ESG Leaders category, which is not very common for a company of our size and makes us particularly proud by seeing our efforts in sustainability formally recognized at this outstanding level. This year, we also took part the EcoVadis rating process, which is very important, especially for industrial supply chains. We received by EcoVadis a Silver Medal putting us in the top 23% of our industry. And as always, we consider this as a starting point for further improvement. So on Page 10 now for the closing remarks. On the demand side, we continue to see a solid growth trend across the board with refrigeration having excellent results as expected, but HVAC, particularly outperforming our past expectations, due to the acceleration of secular trends related to decarbonization and electrification. The group is continuing its strong efforts in executing a strategy of efficiency, resiliency, and sustainability. With the new Croatian plant fully operational according to plans, we are continuing with our digitalization roadmap achieving, for example, strong reductions in the design and multisite industrialization time to market, and we're constantly improving our ESG standing. This year, we also executed 4 bolt-on acquisitions, fully in line with our strategic guidelines and with a strong strategic potential in services, sensors, indoor air quality, also starting to accelerate our footprint expansion in North America. Of course, there are still significant challenges on the macro side like the electronic material shortage, cost inflation, geopolitical tensions and a possible [ coming ] recession. A word on the shortage situation. For sure, a drop in demand for laptops and smartphones is creating more availability for components in consumer electronics. However, components for industrial electronics are of a different category and typically follow different supply chains and manufacturing assets. There are, in any case, some early signs of improvement, and we do expect to have better availability next year. However, our suppliers are still in allocation and lead times are still very long. Therefore, the scenario will remain challenging, even if with a slow gradual improvement during next year. The most challenging category of components is and will probably remain the one related to power electronics that is those components used for inverters, where demand in general is very high due to renewables and electrification. Vis-a-vis these challenges, there were indeed some exciting opportunities, like the fact that the refrigerant transition is gaining stronger and stronger traction around the world and also the booming heat pump market, particularly in Europe for the REPowerEU program. To conclude, net of a possible further worsening in the supply chain, we expect to report in 2022 an organic revenue growth close to 20% on a same perimeter current exchange rate basis, improving our previous guidance. EBITDA margin for the full year is expected to be close to 20%, considering that every fourth quarter profitability structurally decreases for seasonal reasons. Thank you very much for your attention. We are now happy to answer to all of your questions.

[Operator Instructions] The first question is from Alessandro Tortora of Mediobanca.

Yes. I have 5 questions, if I may. The first one is related to the organic growth achieved in the first 9 months, if you can give us mix and the percentage of coming from the price component inside the organic growth in the 9 months, okay? I go one by one, Francesco? How do you prefer?

As you prefer, Alessandro. I can reply immediately to this one. Okay. So the price component for the organic growth so far has been in the mid-to-high single-digit range.

Okay, mid-to-high single digits. And this basically is already including the last price increases you made. Correct?

Not completely, not completely, because it was done in July, but it takes a few months before -- also because we did not apply it to the existing backlog -- to the existing order portfolio. So it's not completely visible the last price increase.

Okay. Then the second question is on the assumption you made on the EBITDA margin around 20% this year. Considering the price component -- incremental price component, maybe also some deflation on some components. Can we think about this level to be a bit conservative, or want to put it in another way, considering the current level of saturation of your plants, is it fair to assume that maybe the historical range between 19%, 20%, is it probably now much more closer to 20%?

Okay. So let's say, our expectation of 20% is based on the fact that, as every fourth quarter of the year, profitability goes down because we have -- for seasonal reasons because we have the accrual of a number of expenses and that happens every year. We -- in terms of -- if I understood correctly, you mentioned cost deflation. We're not seeing cost deflation in this moment. And it's true that we are having good results from the price increases, but our strategy is not to recover fully the cost increases. In terms of our mid-cycle expectation for profitability, let's say, it's very related to operating leverage. So let's say that if -- as our mid-cycle expectation for revenue growth stays where it is, so in the high-single digit range, then for the time being, we maintain our expectations also for profitability in the 19% to 20% range. Then, of course, we will monitor because there are many uncertainties now in the market. We will continue to monitor the evolution of the market and of demand and eventually see if it could be the case to update our mid-cycle expectations. But for the time being, we maintain it.

Okay. Then the third question is on the heat pump side. Considering that this is an outperformer in your portfolio, can you give us a sense of the performance, the sales performance and the growth of this subdivision? Is it like a 30%, 40% increase or even more than that? And do you believe it is realistic to think about -- considering the current pace of introduction of this solution, do you think it is realistic to think about heat pump application accounting for you more than 20% in probably 2 years from now?

Okay. So the heat pump application is having a very good growth, so let's say, in excess of 20% this year. Please consider that it's very limited by supply chain constraints. So demand would definitely be much higher than the real growth we are achieving because of the supply chain constraints. Next year, we do expect an important growth in the market, again, constrained by the supply chain because, again, even if the availability of components will be higher, we will manage to grow significantly in heat pumps, but we will not grow as much as we would like in general. And I believe that, yes, likely if the trend continues like this, the weight of the heat pump application on our portfolio could go over 20%. I don't know over how long because it depends also on the growth of the other applications because we have other applications that have important growth drivers, for example, the ventilation application due to the investments on efficiency of buildings. So it depends on how the other applications grow. But let's say, this year, heat pumps more than 20%, very much constrained by the supply chain and not by demand. And next year, it will be more, again, constrained by the supply chain.

Okay. And the last 2 are -- the next question is on the contribution of Klingenburg and Senva, if you can give us an idea of also on a pro forma basis the contribution that you expect on at least [ full year ], for instance, being already [indiscernible] November. On Klingenburg, [indiscernible] there are some intercompany revenues, not totally clear to me. And also, the contribution of Senva, again, on a pro forma basis this year. And the last one, just to complete is on the delta working capital is around EUR 14 million, considering the strong trend you mentioned before on sales, just to understand, what's the view on this item, and if you see there stable quarter-on-quarter trend for the full year, therefore, keeping the strategic level of working capital?

Okay. Alessandro, this is Nicola. In terms of the working capital, we estimate that at the end of this year, it will be pretty stable compared to the September [ traditionally ] on the sales. So it will be pretty stable on this. Then in the future, we confirm that in the long term, it will be expected to be like our historical guidance, around 16%, 17% of sales. But in this period, until there is the shortage on the component, we like better to have -- and we feel more confident that we have a higher level of working capital. Then with reference to the Klingenburg and Senva, now we know it's difficult to predict exactly the impact of this legal entity in the profit and loss of the group since they were purchased in the last few months. I can tell you that -- okay, the figures will be pretty in line to the slide on yearly basis that was shown by Francesco. The Klingenburg is not a big seasonality. Instead Senva, the last quarter is the less strong due to the seasonality reason. And so you can take the percentage based on the yearly figures that was shown in the slide.

As a proxy, yes, that should be a good proxy for the contribution.

The next question is from Niccolo Storer of Kepler.

It seems most of my questions have already been answered. I would focus a bit on -- again on your guidance. First question, is the high -- mid-to-high single-digit impact from pricing related to Q3 or 9 months?

Nine months.

Okay. And so if I try to calculate an implied Q4, and considering the FX impact, the M&A impact, I would end up with an organic growth in the 10% region, so half that of Q3 with arguably a price impact increasingly high. So in volume terms, growth would be very, very low. So why it is? And related to that, again, on margin, implicitly, we would have probably -- is putting revenues growth at 20% and EBITDA margin at 20% at Q4 in the 14%, 15% EBITDA margin region, which I understand that Q4 for you is always the weakest quarter of the year. But this way, it would be very much lower compared to previous year, and in general, compared to the trend of the 9 months. So do you foresee any specific cost item impacting Q4 in such a way to bring your profits so down compared to the average?

Okay. So starting from sales, please consider that our guidance for the second half of the year was a growth of 10% to 15%. So basically, the projection we're making for the fourth quarter is in line and in continuation with the expectations that we have been having in the last month and that we have been communicating. The main reason is the uncertainty related to the supply chain because there are still many uncertainties. Yes, the situation on some fronts shows some signs of improvement, but there are still several uncertainties. So we maintain this expectation, which is basically the continuation of the expectation we've been communicating in the last couple of quarters. Concerning the -- then let's say that historically, the fourth quarter of every year for us is also a little bit softer in terms of sales for seasonal reasons. It was not the case in the last couple of years, but that was because the shortage and the backlog created some shift in production. So it was not the common scenario. The common scenario is that the fourth quarter is softer because for seasonal reasons, because there's the inventory, typically, we shut down production for a few days also to upgrade our ERP systems in several plants. So there are structural reasons for this. And the fourth quarter of last year has been particularly strong. So basically, there is no reason in terms of demand to see a change for the next quarter. It's mainly related to uncertainties on the supply chain, which are still there, plus the assumption that we revert to our historical trend for the fourth quarter sales. And again, this is basically a guidance assuming the same expectation, more or less, of the last couple of quarters. Concerning profitability, if I understood correctly, Niccolo, you said 14%, 15% in the fourth quarter, in my opinion, that's a little bit too low, even assuming a 20% profitability. Let's say that the decrease in profitability that we have every fourth quarter is related to an additional accrual of cost that we typically incur at the end of the year plus the softer sales because the 2 things are strictly related. In any case, I wouldn't expect the 14%, 15% profitability in the fourth quarter but higher than that. And also, finally, please consider that 20% is more or less a range. So we're not -- it's necessarily an extra figure, it's in the range of 20%.

[Operator Instructions] Mr. Nalini, there are no more questions registered at this time.

Okay. Thanks very much, everybody, for your attention and thanks, Alessandro and Niccolo, for your questions. Looking forward to speaking to you for the presentation of the '22 full year results. Thank you.

Ladies and gentlemen, thank you for joining. The conference is now over. You may disconnect your telephones. Thank you.