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 2021 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, everybody, and thanks for joining our call for the presentation of the first half '21 results. I'm now starting from Page 2 with a recap of the main corporate events related to the execution of the group strategy. In this period, we started the construction of our new plant in Croatia intended to support our growth in EMEA as well as to increase the resiliency of our supply chain. This plant will start operating at the beginning of 2022. A new Board of Auditors and a new Board of Directors were appointed by the shareholders and tasks and powers concerning ESG were assigned to the Director, Carlotta Rossi Luciani. As anticipated, we strengthened and accelerated our M&A activity, and we pursued 2 opportunities in this period. We acquired 51% of the share capital of CFM, a system integrator, very strong in services on the Turkish market and a long-standing distributor and partner of ours. We also completed the acquisition of 100% of the share capital of Enginia, a leading company operating in the ventilation and air handling unit sector. I will spend a few words on Enginia at the end of the presentation. We also entered into our first sustainability-linked loan for EUR 20 million, linking the loan specifically to achievements in gender equality. I'm now moving to Page 3 with the main financial highlights. Basically, Q2 confirmed the already excellent performance that we had in Q1. Revenues grew by 25.9%. If we exclude the positive effect of the consolidation of CFM for approximately EUR 1.6 million for 1 month as well as the negative effect of the exchange rate, the real like-for-like growth was 27%, so even more. All regions and markets contributed to this achievement. Of course, the background is one of strong economic recovery in most of the world. However, we continue to execute our strategy of end user engagement and innovation for energy efficiency and for the transition to sustainable refrigerants. And thanks to this, we managed to seize very important opportunities in several key strategic applications like indoor air quality, data centers and heat pumps. In food retail, we continue to expand our market share, but we also benefited from an expected recovery in the investment cycle. On top of this, we saw a strong recovery in the most cyclical applications like HVAC industrial as well as food service that had a strong recovery almost all over the world. Adjusted EBITDA margin was 22.4%, basically in line with the first quarter, up 320 basis points on the first half of 2020 and 270 basis points on the full year 2020. This excellent performance was driven mainly by operating leverage, but also to the continuous execution of the efficiency measures that we started taking last year. All of this offset the increased costs caused by the situation of raw material shortages. Organic net financial position basically -- so net of the M&A activity, decreased by 13%. We had the free flow from operations of approximately EUR 37 million, that easily covered EUR 13 million of increase in net working capital, EUR 7 million of CapEx and EUR 12 million of dividend. I'm now moving to Page 4, where we can see some more details. So revenues at EUR 202.6 million, grew by 25.9% from the EUR 161 million in the first half of 2020. As we can see on the top right, we also had an increase of 21.4% compared to the first half of 2019, which was not affected by the pandemic. If we exclude the negative effect of the exchange rate, fixed exchange rate revenues grew by 28%. So almost 30% growth. EBITDA at EUR 44.1 million, grew by 42.9% from the EUR 30.9 million of last year. And if we adjust for some nonrecurring items, which are basically expenses related to our M&A activity, the EBITDA adjusted was EUR 45.3 million, growing by 46.3%, representing 22.4% of sales. Net profit was EUR 26.8 million, up 64.4% from the EUR 16.3 million of last year. This is thanks mainly to the operating result, but also thanks to a significant reduction in the tax rate compared to the same period of last year, mainly due to a favorable geographic profit mix, as we will see in more detail in a few minutes. CapEx at EUR 6.9 million, grew by 37.1% from the EUR 5 million of last year, and this CapEx also starts to include some expenses related to the construction of the new plant in Croatia. And moving to Page 5, where we can see the revenue breakdown. To the left, there is the breakdown by region. All regions had an outstanding performance. EMEA grew by 26.2%, net of the foreign exchange, with a very strong performance in all applications. APAC grew by 40.9%, net of the foreign exchange. Here, we had a really outstanding performance in China, but also a strong recovery in South APAC. In China, in particular, our strategy of end user engagement and innovation for the local market is delivering results with some key applications like, for example, data centers and indoor air quality for the local market. In North America, we have a strong impact from the foreign exchange, but net of the foreign exchange, sales grew by 18.1%. In Latin America, sales grew by 72.5% net of the foreign exchange. And here, we have a recovery in also the countries outside Brazil. So this very good performance basically involves the entire region. To the right, we can see the breakdown by market. HVAC grew by 25.6%, net of the foreign exchange. Again, here, we have a confirmation of a strong performance in key applications like data centers, indoor air quality, health care as well as heat pumps, plus we have the recovery of the cyclical industrial applications. HVAC commercial in Europe saw a slight recovery. However, the full effect of the investment cycle in HVAC commercial will be probably visible from our standpoint in the next 6 to 12 months. Refrigeration grew by 33.4%, net of the foreign exchange. We confirm an excellent performance of food retail, where the market share growth is compounded by a recovery of the investment cycle, plus we had a strong recovery all over the world of the food service application. So the core business, net of the foreign exchange, grew by 28.3%. The no core business grew by 7.7% and so the total result, net of the foreign exchange, is 28% growth. I'm now moving to Page 6, and I'll leave it to Nicola to comment the items below the EBITDA.

Thank you, Francesco. Slide #6 details the group result from the EBITDA to the net profit. The first half of 2021 was impacted by D&A, pretty in line with 2020 level. In the period under review, the financial charges were higher compared to last year due to an increased effect deriving from the IFRS 16. The ForEx impact in the first half of 2021 was a loss for around EUR 250,000 compared to a gain of around EUR 30,000 in the first half of 2020. It was mainly related to the group operation in Brazil, Croatia and China. In the first half of 2021, the result of the company consolidated with the equity method was a gain of EUR 618,000 compared to a profit of EUR 250,000 of the first half of 2020. The tax rate of the period was equal to 19.9% compared to 23.1% of the first half of 2020, originated by a different country mix. The group net profit of the first half of 2021 was equal to EUR 26.8 million compared to EUR 16.3 million of the same period of 2020. Slide #7 shows the net financial position evolution of the first half of 2021. Net of the M&A activities, the net financial position was improved compared to December 2020 level, reducing from EUR 49.6 million to EUR 43.3 million. The free flow from operation was equal to EUR 36.7 million, higher than the CapEx and the increase of net working capital for the period. The organic increase in net working capital was mainly driven by strong growth of revenues and to a planned increase in inventory to better cope with raw material shortage and the seasonal effect in accounts receivables. It should be noted that the DSO at the end of the period improved compared with the same period of last year. During the first half of 2021, the company paid a dividend of EUR 12 million, and the net financial position was impacted by M&A activity, which implied a payment of around EUR 35.6 million. At the end of June 2020 (sic) [ 2021 ] the net financial position of the group was equal to EUR 78.9 million. Taking out the accounting effect of IFRS 16, the net financial position with banks amounted to EUR 50.2 million, a level significantly below EBITDA. At the end of December 2020, the group -- at the end of June 2021, excuse me, the group has an amount of cash, cash equivalents, available credit line of around EUR 90 million. I leave the floor to Francesco to go on with the presentation.

Thank you, Nicola. I'm on Page 8. So to summarize, on the demand side, we have a background of strong economic recovery almost all over the world. However, in this context, we continue to see strategic opportunities, executing our strategy of end user engagement and innovation for service. On the operations side, of course, we have the impact of the global raw material shortage, but in this period, this was mitigated, thanks to a number of countermeasures that we took in the last 12 months: increased flexibility through the deployment of new production lines, homologation of alternative components, even alternative micro processors as well as an increase in inventory. So in this period, the effect of the shortage was mitigated by the actions that we took at the end of 2020. While the actions that we took at the beginning of 2021 during the 6 months will be visible mainly starting from the fourth quarter, I'm referring in particular to the homologation of alternative components. So for these reasons, probably Q3 will be the most impacted quarter of the year. But in any case, the tensions are expected to continue at least for the second half of this year, and they are still pretty challenging. All of this led to a confirmation of the 10-year record growth rate in revenues that we reported at the end of Q1, with an EBITDA margin significantly higher than 20%. As anticipated, we improved our M&A activity, and we used our strong balance sheet to pursue 2 important opportunities in this period with 2 bolt-on acquisitions, CFM and Enginia that are fully in line with our strategic guidelines. So to conclude, taking into account the very positive trend experienced in the first half as well as the indications from the current order intake without any worsening in the current scenario with respect to the pandemic and the raw material shortages, we expect to achieve an organic revenue growth rate between 15% and 20%. We therefore improved the view that we had at the end of the first quarter. Before leaving it to your questions, I'm now moving to Page 10 with a few words on the last acquisition, Enginia. Enginia is a leading manufacturer of components for Air Handling Units, mainly dampers to control the airflow. Enginia has been constantly growing in the last few years. However, like Recuperator, we intend to accelerate the growth of Enginia using our sales footprint since currently Enginia does not have an international sales force. Besides commercial synergies, we also -- in any case, the industrial rationale of this acquisition is basically expanding our offering for air handling units. Air Handling Units represent a strategic application for us for a number of reasons, not least because it's expected to grow significantly, thanks to the increased sensitivity to indoor air quality as well as to the energy efficiency of buildings. We also expect significant operating synergies with Recuperator. The 2 companies are actually geographically very close. And in fact, the entity that acquired Enginia was Recuperator itself. Some key data. Revenues of Enginia last year were EUR 12.3 million with an EBITDA of EUR 1.5 million. Enterprise value was EUR 12.4 million, corresponding to approximately 8x the EBITDA. The impact on our net financial position, therefore, is very sustainable, and this represents a bolt-on acquisition. Thank you so much for your attention. We are now more than happy to answer to all of your questions.

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

I have 4 questions, if I may. The first one is related to the CapEx and investments you have planned to do because, if I remember well, you were planning to spend around EUR 20 million. And I'm assuming that probably you should speed up, okay, the pace of investments in the second half, but I would have, let's say, a confirmation on that. The second question is on the shortage that you mentioned before. Are there any specific area, I don't know, Europe, for instance, or Western Europe, where we are going to see this tougher impact of some shortage? And in terms of geographical mix, can you comment a little bit also the performance of North America? That if I understood well from the first quarter to the second quarter slowdown. So if there are any specific reason at cost and CapEx that explain this trend? The third question is on the Turkish acquisition. If I understood well, you're going to, let's say, the minority stake of 49% is going to take a valuation of almost EUR 50 million or something like that. Can you explain at least or give us a qualitative indication of what are the underlying assumptions behind this huge amount for this minority stake considering that you paid the 51%, EUR 23 million. And the last 2 questions around the cash flow side. If you can, first of all, confirm to us that the overall buildup you made at working capital in the first half more or less should be stable going forward? And on tax rate, if this level of 20% is a little sustainable for you?

Mr. Nalini, please check if your line is on mute. We cannot hear you. ladies and gentlemen, please hold the line, the conference will resume shortly.

Sorry, we had some technical problem. And so with reference to CapEx, I confirm you the level, Alessandro, and we are confirming to arrive around to EUR 20 million of CapEx. Anyway, as you know, it could happen that some projects will shift from one month to the other, and so there could be some attachments at the end of the period. Anyway, the CapEx projects are confirmed and that we are going to invest on this. Then with reference to CFM, you were asking, are we -- we put a liability in the balance sheet of around EUR 49 million, that is a relevant amount. To make this evaluation, we were supported by an external consultant, who took the contract and even the business plan that we have prepared with the seller on the -- who is still involved in the management of the company on the future evolution of the business plan. And so it is based on this. And the technicality that was used from the consultant, it was model -- sort of Montecarlo model where we made several different scenarios and each scenarios was based on different probability. And so it is mainly based on the expected evolution of the business of the new subsidiary. Then there was, I think, a question about the working capital. The working capital of the period, what you see, it takes in consideration even the acquisition that we made because we made the consolidation, full consolidation from the balance or both of Enginia and even of CFM. Anyway, we can confirm you that our aim is to have a level of working capital, even taking expansion this 2 subsidiaries of around -- at the end of the year of around 16% of net sales. This is the target that we have even because our aim is to have an inventory level that is in line with the needs of our customers. Then you were asking about the tax rate level for the future. And from this year, we are taking benefit even of the step-up mechanism that was applied 2 years ago. And we believe that 20% should be a sustainable level for the group for this year. Now I'll give Francesco to comment about the shortage and the geography.

Yes. Thanks, Nicola. So let's say, in terms of geography mix, the shortage is basically affecting all regions. Let's say that currently, probably, we expect a slightly higher impact on HVAC more than on refrigeration concerning the specific product and component mix. So let's say, the differentiation is more market related than geography related. Of course, we are taking all the countermeasures and in particular, the homologation of alternative components has been mainly addressed to HVAC just because of this reason. In terms -- as far as North America is concerned, the reason why there was a slight decrease in the growth rate is basically related to HVAC because the growth rate in refrigeration improved. We had a slowdown in HVAC, but HVAC OEM, especially is -- tends to have cyclicalities from 1 quarter to the other related to a number of factors. So we are not absolutely concerned about the performance of North America looking forward. And we are still in the process. We are starting to execute all the actions to improve our performance there. So basically, this is a contingent fluctuation mainly related to HVAC OEM.

The next question is from Will Turner with Goldman Sachs.

I also wanted to ask many of the questions that I had, which is quite useful. So you've already touched on some of them. But I want to go into a bit more detail on your comments on the electronic component shortages. And just -- you mentioned how it could get worse in the second half of the year. Could you just give a bit more color on how that's going to impact you? And whether it's quantifiable to extent that it's going to be worse? Because when I look at the 2Q results, it does look like it has had an impact because the cost of material and components as a percentage of sales is higher in 2Q '21 than it has been in historical years, but you obviously still managed to achieve quite good profitability by historical standards. Is that going to get worse and therefore, we should expect lower margins in the second half of the year? Or is it that sales might be worse because you can't ship products because you don't have the components in order to finish assembly?

Okay. Thanks, Will. So the impact on the second half from the cost standpoint, let's say, we'll be more visible in the second half than in the first half because, of course, from -- on the P&L, it will be -- we will -- the effect will be more visible now going forward. However, we are still talking about a low single-digit cost increase for the raw materials. So it's something manageable. And we are in the process of recovering most of it through prices. So that will translate probably to some margin deterioration, but nothing too meaningful or scary, let's say. The impact will be definitely more visible on the top line growth because basically, it represents a bottleneck on our possibility to grow. In fact, our guidance of 15% to 20% organic growth for the full year basically reflects our assumptions and uncertainties related to how much this bottleneck will affect our possible growth rate. So -- but in general, the effect would be, let's say, more visible in terms of limiting the potential for growth rather than on the cost side.