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 First Half 2023 Results Conference Call. [Operator Instructions]. At this time, I would like to turn the conference over to Mr. Francesco Nalini, CEO of Carel. Please go ahead, sir.

Thank you. Good afternoon, and thanks for joining our call for the first half 2023 results. I start from Page 2 of the presentation with the main highlights of this period. The second quarter of 2023 has been the 10th consecutive quarter with a double-digit organic revenue growth. We're actually delighted to reported revenues in the first 6 months of this year are approximately equal to revenues for the entire year 2020, which means that basically, we doubled our sales in just 3 years, and it's important to recall that also in 2020, we grew in spite of the pandemic. EBITDA in this first 6 months is more than double the EBITDA of the entire year 2020 since profitability stood at 22% at a higher level compared to 3 years ago. Revenues in the first 6 months of 2023 grew by 26.4% in total or 13.1% organic. We've been penalized by the exchange rate on sales and at constant foreign exchange, organic sales grew by 13.9% at the high end of the guidance provided in May and further accelerating the trend reported in Q1. In general, in Q2, we saw the continuation of the same trends of Q1 with strong demand in HVAC in particular in heat pumps, data center cooling and indoor air quality. The refrigeration market, on the other hand, remained pretty soft across the board due to cost inflation and uncertainty on consumer and demand. EBITDA margin in the period was 22% higher than the 21.5% reported in the same period last year and also higher than Q1 '23 when it was 20.8%. Cost inflation is still present, even if to a lower extent compared to last year and was offset by operating leverage, price increases and a mix effect due to the recovery of controls, thanks to improvements in the electronic supply chain situation, where controls over gross margin profitability slightly higher than the average. Net financial position at the end of the period was approximately EUR 108 million, slightly higher than the EUR 96 million at the end of last year due to approximately EUR 36 million of net working capital, mainly for revenue growth and higher inventory level linked to managing the shortage and the duplication of sources as well as EUR 20 million of dividends, EUR 4 million related to the EuroTec acquisition. On Page 3, we can recap some key aspects of the Kiona acquisition that represents an important milestone in our technology and growth journey. Kiona is based in Norway and is a leading provider of software-as-a-service solutions for the optimization of energy consumption and performance of refrigeration installations, public and commercial buildings and multi-residential units. This transaction is fully consistent with our strategic guideline of developing digital services and with Kiona we're acquiring state-of-the-art technologies that we will add and integrate with ours as well as a high a fast-growing market share in the digital services themselves. And more specifically, with Kiona, we have a perfect industrial fitting as we can see here to the right. For example, we are greatly increasing our R&D firepower in the development of software and analytics, thanks to Kiona large and highly skilled talent pool. We're also increasing our competencies in the sale of digital services on a recurring basis since this is what Kiona has always been doing very successfully. We expect to accelerate Kiona growth internationally, thanks to Carel global channel presence and also in terms of new applications like ventilation and indoor air quality, where we have been investing significantly and where we can, for example, have a perfect combination with SENVA Sensors. We can also leverage our high share in our conditioning, ventilation and refrigeration end units, and we can develop new technological solutions, enhancing the Kiona system as well as our own control system on the edge. Valuation of Kiona is NOK 2.35 billion or approximately EUR 210 million based on expected revenues in 2023 of approximately EUR 25 million and an EBITDA margin in the range of 20% to 25%. Specifically in this domain, the valuation was based on a multiple of revenues, in this case, approximately 8.4x, fully consistent with recent comparable transactions. The Founder and CEO and other shareholders will retain 30% of their stake, corresponding post transactions with total minority share of 17.6%, subject to a 3-year lockup period, ensuring a full alignment of interests. Moving now to Page 4, we can see some figures on the first half group results. Revenues in the second quarter grew organically by approximately 16%, 5% higher compared to Q1, thanks also to an improvement in the supply chain situation after the issues at the beginning of the year. This has refrigeration to improve, and we also saw the confirmation of positive trends in heat pumps, data centers and indoor air quality. And this led to total sales in the period of EUR 330.3 million, up 26.4% from the EUR 261.3 million of the same period last year. As we can see here, organic growth contributed for EUR 36.3 million, then we had EUR 34.8 million of perimeter change and a negative contribution of EUR 2.1 million coming from the foreign exchange. EBITDA at 72.6 million grew by 29.4% from the EUR 56.1 million of last year, and it was 22% of sales, up from the 21.5% of the first 6 months of 2022, thanks to operating leverage the further deployment of previous price increases and a more favorable product mix, especially related to the control platforms since they have a slightly higher than average profitability and could recover, thanks to an expected improvement in the electronic component supply chain. Net profit was EUR 40.3 million in the period, up 15.7% from the EUR 34.8 million of last year, thanks to the operating results. The tax rate was 22.5%, in line with expectations and with Q1 slightly higher than the 21.4% of the same period last year due to a different country mix and changes in regulation. CapEx at EUR 7.9 million were 35.3% lower than the EUR 8.9 million of last year due to a different quarterly distribution, but we still expect them to be around 5% of revenues. On Page 5, we have the usual revenue breakdowns. To the left, there's a breakdown by market where all regions reported a very good growth apart for Latin America. EMEA grew by 26%, net of the foreign exchange, confirming the same strong trends of Q1, especially in heat pumps, data centers and indoor air quality. Excluding the contribution of the perimeter changes, like-for-like growth in the region was close to 14%. In APAC, sales grew by 27.9%, net of foreign exchange, almost doubled the growth rate of Q1, thanks to a very strong performance in India and South Korea related to data centers and other industrial applications as well as chillers and ventilation. In China, we had some good results in chillers and heat pumps, but the macro scenario in the country remains quite subdued with many investments postponed. In North America, we grew by 38.9% net of the foreign exchange with a very good growth coming from SENVA, but also with an improvement in organic growth, mainly in data centers and indoor air quality, and this improvement was also related to better conditions in the supply chain. Latin America, sales declined by 1.6%, net of the foreign exchange. We reported a good growth in Brazil, both in HVAC and Refrigeration. However, that did not fully offset the rest of the region where we have a very difficult macro scenario, for example, in Argentina and also a very soft demand for food service, where our exposure in Latin America outside Brazil is quite high. To the right, we see the breakdown by sector with HVAC growing by 40%, net of the foreign exchange or approximately 20% excluding M&A, driven by strong demand in continuation with the trends of Q1. Refrigeration grew by 4.1%, net of the foreign exchange with an improvement compared to Q1, mainly related to the easing of the electronic material shortage that hit the specialty refrigeration, if you remember, in the first weeks of the year. The market in general remains very subdued over the world due to cost inflation and uncertainty on end consumer demand that in turn leads to a postponement of investments. In any case, we believe that we are overperforming the refrigeration market in general. And obviously, we expect the investment cycle to restart not too far down the road, thanks to the strong drivers behind this market. I now leave it to Nicola to comment the items below the EBITDA and the net financial position.

Thank you, Francesco. Slide #6 details the group result from the EBITDA to the net profit. In the first half of 2023 was impacted by higher D&A costs due to the purchase price allocation from M&A activities for EUR 3.6 million in the first half of 2023. It was EUR 2.5 million in the first half of 2022 and the relevant investment in CapEx in the last few years. The financial charges increased for the impact of the interest rate evolution. It should be noted that the increase is mainly influenced by accounting matters, like the timing effect on the put and call option from M&A activities and IFRS 16. In 2022, the line companies consolidated with equity method was impacted by the one-off revaluation of Aaron due to the increase of the investment. The tax rate of the period was around 22.5% higher than last year, mainly due to a different country mix. The minority interest increased for the good performance of the Turkish legal entity, CFM. The group net profit in the first half of 2023 was equal to EUR 40.2 million compared to the EUR 34.8 million of the same period of 2022. Slide #7 shows the net financial position evolution of the first half of 2023. The flow from operation was stronger and equal to euro by EUR 57.6 million. The increase in net working capital was mainly driven by strong growth of revenues and to the increase of inventory influenced by the group reaction to the shortage of components. The DSO is better compared to the same period of last year, and the overdue account receivables is at a group level. In the first half of 2023, the group paid dividend for around EUR 19.7 million. Taking out the accounting effect of IFRS 16, the net financial position with banks amounted to EUR 74.8 million, a level significantly below the EBITDA of 12 months. I'll leave Francesco to go on with the presentation.

Thanks, Nicola. So now on Page 8 for the closing remarks. This last quarter was the 10th consecutive period reporting a double-digit organic revenue growth as a demonstration of the high resiliency of the group business model, showing consistent performance even vis-à-vis big operating challenges like the dramatic shortage scenario or cost inflation. In fact, in the first 6 months of 2023, we had essentially the same turnover of the entire year 2020, which was a year of growth in spite of the pandemic, marking a doubling of revenues in 3 years, thanks to the execution of our growth strategy based on a balanced mix of organic and external growth drivers. As a further remarkable step in this execution, in July, we signed a binding agreement to acquire 82.4% of Kiona, bringing to 11 the number of M&A transactions since the IPO. Even if we could easily finance this acquisition through that only the Board of Directors resolved to call a General Meeting of the Shareholders for a possible capital increase in order to maintain the flexibility and the firepower in our capital structure to continue pursuing growth opportunities. The proposed capital increase is based on a rights issue to provide full transparency to existing shareholders, and the controlling shareholders will follow it partially to ensure proper support, but at the same time, pursue an increase of liquidity of the stock in the market. Looking forward, we expect that the positive demand trend in indoor air quality and especially in data centers, will continue for the second half of the year. In heat pumps, in Europe, in spite of the presence of a solid, very strong structural growth trend, there could be a temporary deceleration in the growth rate over the next few quarters due to some factors like regulation uncertainty, for example, on German legislation or on propane. The ongoing discussions at the European level for these refrigerants in Europe are still not conclusive, but the shift in technology is happening regardless, very fast, and that's for sure a positive thing for Carel considering the deep expertise and level of technology we have on propane. However, it's prompting some heat pump manufacturers to temporarily reduce volumes in traditional gases. In Refrigeration, the weakness of demand continued in Q2. However, considering the structural necessity to restart the investment cycle, we expect demand to gradually start to recover in the coming quarters. To conclude, taking this into account, the group forecasted significant growth also in the second half of the year, even if with a less exuberant trend than in the first. In the first 9 months, we expect to report revenue growth on a like-for-like constant exchange rate basis, not far from what's reported in this first half. Organic growth is also expected for the fourth quarter, the extent of which is, however, difficult to quantify at the moment in consideration of the volatility of the market and the uncertainty on the macroeconomic scenario. Thank you so much for your attention. We are now more than happy to answer to your questions.

This is the Chorus Call conference operator. We will now begin the question-and-session. [Operator Instructions]. The first question is from Christian Hinderaker of Goldman Sachs.

Francesco, Nicola. My first question is on the outlook statement and specifically the comments around deceleration in heat pumps. You mentioned, I think, potentially lower production around the F-gas regulation changes. I just want to confirm I understood that correctly. Is that OEM product redesigns and hence, could that be a medium-term impact for you in terms of their requirements for different components? Or is this just a moderation as they paused to take decision in their production rates? And then secondly, you said there were some other considerations in the statement. Can you just elaborate on what those are.

Okay. Thanks, Christian. Yes, basically, regarding propane, as you know, there are several discussions at the European level, basically to introduce it as a mandatory refrigerant. Now the discussions are still going on. However, the transition to propane is very well underway in terms of design, the uncertainty on the timing of the new legislation is basically, is leading some manufacturers basically to reduce production volumes of the old refrigerants because they don't know for how long they will be able to sell those. Of course, at the very same time, these displayer are designing new solutions based on propane, which where we have a very strong position. So we believe this is temporary contingent deceleration that will be, let's say, surpassed by new projects where, again, we have a strong position. Then there are other considerations on heat pumps like, for example, the -- there are some discussions going on in Germany on legislation, which is also maybe could cause some short-term deceleration because of the timing. As you know, it's very well known that there is a bottleneck in terms of installation capability in Europe. So basically, we expect that there could be some deceleration -- short-term deceleration in the coming quarters. But of course, the structural trend, the medium-to-long-term trend is there and will continue. So this could be a temporary, let's say, deceleration in the market.

And then just on data centers, I believe, around 13% of group revenue. Can you talk about your positioning in that markets, including how much opportunity you see within North America? And also whether you see a potential transition to liquid cooling in the medium term as a possible risk or opportunity?

Yes. Okay. Yes, data centers is going on very strong in almost all over the world, maybe besides just China that in this moment is a challenging macro scenario. But in the rest of the world, it's a very strong vertical for us now and we expect that to continue. It's also very strong in North America. It's one of the fastest growing verticals. In -- yes, liquid cooling, it's probably get interaction. But what we expect is that there will not be just one winning architecture. There will be several. In any case, for us, liquid cooling is one of the architectures that we provide because liquid cooling requires chillers, and we are very strong in chillers. So it's -- we are kind of agnostic on the kind of architecture that can be used because we can provide all of them. In data centers, it's interesting because this fast growth of the market is leading also players from other adjacent verticals to enter in the space like from the ventilation, for example, space or from the chiller space also for liquid cooling. And we see that as a positive because many of these players are already our customers. They are the typical customers that we already serve, and it makes the market more fragmented, which is, in general, good for us.

And then finally, maybe just on the growth in the quarter. How should we think about the price volume and mix contributions for the growth?

Okay. So the price effect is approximately in the mid-single-digit range. The mix effect is much less. It's much less. It's pretty limited. There is a slightly positive effect, but it's not limited in that. So it's a low single-digit effect.

The next question is from Niccolò Storer of Kepler Cheuvreux.

2 questions, please. The first one, I would like to come back on what you said on possible deceleration on heat pumps to understand that if you have a sense on which is the level of inventories at OEMs and distributors. And if this level might result not just in the deceleration in coming quarters, but a straight decline in sales, as we have been seeing on many other capital goods suppliers, which have been caught between lower demand and high stocks on the other hand. The second question is on profitability. You have reported quite strong profitability at EBITDA level. And so is it fair to extend this performance to the end of the year, taking into account, of course, the seasonality and the weakness of the fourth quarter. So should we expect maybe at the end of the year something more than previous year given the improvement reported supply to the year.

Thanks, Niccolò. So concerning heat pumps, let's say that in this vertical, differently from other verticals in our space in HVAC. In heat pumps, there is a distribution network downstream that has stock, of course. So we believe that the stock levels in this moment are probably quite high and this matched with, for example, the bottleneck on installers could be one of the elements leading to the deceleration. But we expect, in any case, also this effect to be temporary. So we believe that the destocking, if there will be a destocking will be quite fast to go through. So it's one of the several elements. Yes, I agree due probably to the distribution network that was built and then that crashed against the capacity to deploy all these heat pumps, but I believe this to be temporary. Considering the profitability, as you know, in the second half of the year, profitability for us typically declines we expect profitability to converge towards the, let's say, the high end of our usual expectation. So basically, we expect that to converge towards the high end or towards 20%. So from the current 22% towards 20%, even if it's difficult to provide a precise number also because of the fact that it's very much depending on the top line. Of course, here, I'm talking about adjusted EBITDA because the EBITDA we reported now is the 22% is reported EBITDA. But since we will have some extraordinary items in the second half related to the Kiona acquisition and the capital increase that this, let's say, converge us towards the high end of our usual expectation refers to adjusted EBITDA.

Maybe if I may, another one on refrigeration. If I understand well, basically the recovery you have experienced in Q2 was mostly driven by backdrop digestion. You still expect to come back in the second part of the year. Has this I mean, view changed compared to what you were expecting a few months ago, meaning that maybe you see such a recovery maybe further in time compared than what you was expecting 3 months ago where we are still with exactly the same expectations of end of Q1.

Well, Niccolò, let's say that refrigeration in particular, is quite sensitive to the macro environment. And in fact, the macro environment, the expectation on the macro is probably a little bit worse now than 3 months ago. So this leads us to be a little bit more cautious on the recovery of refrigeration due basically to the deterioration of the macro. So we still expect that it will recover because they have to start again, investing for a number of reasons. The timing is uncertain due to the macro scenario. In any case, let's say, putting together Q1 and Q2, even if yes, the improvement in Q2 was mainly related to overcoming the shortage. In any case, we believe we are overperforming the market in total because the market is definitely doing worse than our results. So let's say that the deterioration of the macro is leading us to be more cautious than 3 months ago on refrigeration. And we still expect the recovery, we are more certain on the timing.

The next question is from [indiscernible].

[Technical Difficulty] related to the acquisition of participation that we are facing in the Norwegian companies. First, I would like to go over more understanding on the integration plan? How will you need it in order to fully integrate Kiona. I mean we see that hopefully, simply are going to chose synergy to develop or any also coming from both companies. And on the second one, I understand that you would like to go on M&A. The effect will be again to reiterate Kiona and do some more M&A in the same period I mean coming period? And maybe one last one point over the Kiona integration is at a point now on what you refrain of potential in the coming quarter or the commercial if that is right?

Yes. I'm very sorry, but the sound was not very good. So it was not able to fully understand your question. If I understood correctly, you were asking a question on the timing of the Kiona integration. Is that correct?

Yes.

And then on if -- on our M&A part...

Yes. Where we feel great to group to integrate Kiona. And on the same side bringing from M&A but will in prior integrations and then based on your pipeline, that's more of the 3 points.

Yes. Okay. So the timing of the Kiona integration will depend on the kind of synergy we are talking about because here, we have some shorter-term synergies and some longer-term synergies. So on the, let's say, some short-term synergies that can be achieved quite soon are, for example, the acceleration of Kiona international expansion using our international presence. This is probably one of the first and easiest ways to integrate and get synergies. Another pretty SaaS synergy could be will probably be related to the fact that Kiona has some limited hardware sales because they sell routers sometimes to for the deployment of their system, and this order can be easily provided by Carel achieving cost of synergies. Another kind of relatively fast synergy a little bit, let's say, longer term than the previous one, but in any case, still relatively easy and faster would be the expansion of Kiona into adjacent applications, for example, indoor air quality and ventilation where we have a quite comprehensive solution and where there is a perfect match with the sensors for ventilation and indoor air quality provided by SENVA in the United States. And by the way, SENVA has a strong presence in the contracting channel. So we would also provide an acceleration to Kiona in North America as well as provide an acceleration to SENVA itself. Then there are longer-term synergies, for example, related to deeper technological developments like creating a development for integrated our software on the edge that is on the end units where we have a strong presence and the Kiona solution at the installation level. This, of course, requires technological development. So it's longer term. This -- then there are some other directions. These work streams for integration would not be, in my opinion, completing with our M&A pipeline. Of course, we still want to continue being exited on the M&A market because we believe that this work can be achieved without jeopardizing any of our current strategies for growth. So we will -- we're still active on M&A following our usual guidelines. There is complementary technologies, market share and services. And the Kiona integration, I don't think will jeopardize any of this, honestly.

The next question is from Emanuele Negri of Mediobanca.

I have 2 questions. The first one is kind of a follow-up or a previous one and it's about destocking. You talked about some destocking in the heat pumps segment. Do you see any potential destocking process in other end markets? And the second one is on the net working capital provided the level you had in the first half. What kind of expectation do you have for the full year in terms of the working capital level?

Okay. I'll take the first one. So concerning, yes, the destocking in heat pumps, as I was mentioning, in HVAC heat pumps is probably the vertical more subject to overstock because there is a -- since it's oriented towards the residential market, there is a distribution network. And so it's much, much more prone to possible overstocking compared to other verticals because, for example, in data centers, units are typically or solutions are typically manufactured on a project basis and likewise in industrial and also a lot of commercial. There are more -- production is more related to actually an existing pipeline of projects. So heat pumps on the other hand, there are standard units, which are sold to the residential market. So they are much more prone to possible overstocking. So I don't expect, let's say, a significant level of destocking on other verticals in HVAC. Refrigeration on the other hand, is also subject to possible overstocking because there are wholesalers involved. But there, in my opinion, it's not really the point. Now the point in refrigeration is really end demand more than overstocking. Nicola for the working capital.

Yes. The net working capital level at the end of June of 2023 is pretty in line with the same level of last year in terms of ratio on the net revenues. And for the year-end, we are forecasting as communicated in previous call something around 17% of the net revenues. That is something higher than what it was last year as it was blended to our strategy to couple with the shortage of components.

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

Thank you so much for your attention and for your questions. We look forward to speaking with you again for the presentation of the third quarter 2023 results. Thank you.

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