Datatec Limited (DTC) Earnings Call Transcript & Summary

Good morning, everyone. Today, we are presenting our first half FY '22 interim results. Just moving to the agenda. The format is similar to our past reporting with some additional commentary around our strategic review, which was announced a few months ago. I will start with an introduction and hand over to Ivan to cover the financial results. I will then cover the operational reviews of the divisions, touching on strategy and outlook. So our financial results summary, Slide 4. We have had a very solid first half, which would have been even better, if not for the impact of product delays across our industry as a result of the worldwide semiconductor shortages. Our backlog has risen across all sectors as digitization-driven pent-up demand continues to grow for new technologies in many forms to enable increased cloud usage. Revenues and gross profit rose by 15% while EBITDA grew almost at 25% and earnings more than doubled. We are making a special dividend of $70 million to reflect the recent loan repayment from Westcon International, which we lent over 5 years ago after the sale of Westcon Americas to SYNNEX. Overview. The operational leverage in all divisions could have been greater if lead times had been shorter and backlogs had not grown so significantly. The shift to more software and services has helped to mitigate somewhat, but all software uses hardware to run on. All our sectors are very vibrant with pressures not just with supply chains, but also with developing our human resources and hiring. Current trading. The longer the supply chain issues and semiconductor shortages persist, the greater will be our backlog in an environment where demand outstrips supply. At the end of H1, our group total backlog has significantly increased since year-end. Westcon's backlog had more than doubled. We expect this dynamic to continue and grow with tightness in supply chains running at least until the middle of next year. We have considerable software, professional services and maintenance revenues, but ultimately, IT requires semiconductor processes and memory to operate even if the infrastructure is in the cloud. All our divisions are of long-standing with successful track records and brands that have been in existence for more than 25 years. We have deep relationships with our customers and technology suppliers and global skill sets with platforms to grow further. I will hand over now to Ivan to go through the financial section.

Thank you, Jens, and good morning, everyone. The strong operational execution from the prior financial year continued during the first half of FY '22, where we continue to benefit from the secular trends in our industry. Slide 9, the P&L performance. In the prior year, we reported that we revisited revenue recognition as agent or principal for software, software services and cloud computing solutions. This resulted in a restatement of revenue and cost of sales in the prior year. This slightly margin-enhancing restatement did not impact gross profit or items below gross profit in the P&L, and therefore, there is no impact on earnings. Revenue for the first half increased by 15% or 11% in constant currency. Revenue increased strongly in all divisions. Operating costs continue to be well controlled. There has been a significant increase in share-based payment charges in all of the divisions as the valuation of the businesses continue to improve. No restructuring charges or exceptional items were incurred in FY '22 in the first half, reflecting a better quality of earnings. Net finance costs increased somewhat in Logicalis, mainly as a result of rising interest rates in Brazil and increased cost of factoring. The effective tax rate was much more in line with historic norms at 34%. The effective tax rate continues to improve as the businesses are becoming more profitable and the mix of profits improves. There was a very healthy increase in earnings per share for all of our earnings metrics. Slide 10, Financial Performance segmental. We produced a very pleasing performance in all our divisions on the back of very strong operational execution. In particular, the significant improvement in Westcon is very encouraging, demonstrating the turnaround in this business is very well established, building on the momentum from the prior years. Analysys Mason once again had a very strong performance. Slide 11. The revenue and gross profit mix has been very similar to the prior year, and Latin America has been the most challenged region. Slide 12. As the business is becoming less asset intensive, software and services have grown significantly. Hardware is expected to fall below 50% of the revenue mix, which will assist with structural improvements to working capital over time. Moving to the balance sheet, Slide 13. The balance sheet continues to remain strong, driven by solid working capital management. Collections from our customers have remained in line with recent historic norms. Net debt increased from the prior year as a result of working capital investments and increased inventories based on the stronger trading. Liquidity remains strong. During the period, Westcon repaid $70 million of intercompany loans to Datatec. These funds were originally advanced to Westcon from the proceeds of the SYNNEX transaction to fund working capital. The repayment of these loans has enabled the Board to declare a special dividend of $70 million. Slide 14. This slide represents the segmental balance sheet. The increased net debt in Westcon on a stand-alone basis is due to working capital investments and the $70 million repayment of intercompany loans to Datatec. This is offset by increased Datatec central cash at period end. As reported with our FY '21 results, the prior year cash flow statement had been restated to remove bank overdrafts from cash and cash equivalents with such overdraft were repayable on demand in certain circumstances, but not unconditionally repayable on demand. These cash flows are now shown as cash flows from financing activities. There were no balance sheet restatements as a result. Slide 15, cash flow statement. We had working capital cash outflows on the back of strong trading and working capital investment. I will now hand over to Jens to cover the remainder of the presentation.

Thanks, Ivan. So moving on to the divisional reviews, starting with Logicalis and I'm on Slide 18 highlights. We had strong order intake and these bookings surpassed our invoicing and billings resulting in a large increase in backlog. We continue to make investments in 4 specific areas: cloud migration skills around Microsoft and Azure, advanced networking and 5G, business intelligence and data analytics and cybersecurity. These initiatives and others are well supported by the group's strong cash generation. Revenue and gross profit by geography. All regions had growth in revenues and gross profit contribution. Overall, revenues were up 19%, with gross profit growing by 13% due to a higher product mix in Latin America this year with associated services yet to be fulfilled. LATAM and Europe were the most impacted by product delays, especially in Germany. EBITDA, Slide 20. The delays in shipments with growing backlog impacted Latin America and EMEA the most. We expect this to improve in the second half, but still drag on into next year. This situation could get worse before getting better. There was a good balance of EBITDA and profits by region. Last financial year, we had significant COVID-related restructuring. Most of this was in H2, but some occurred in H1. Prerestructuring EBITDA is represented by the blue bar. On an absolute basis, EBITDA growth was close to 10%. Slide 21. Hardware as a total percentage of the mix continued to shrink, but some of this decline is temporary and exaggerated by semiconductor delays. The software category doubled to 18%. Software and services now make up 57% of total revenues, which would equate to about 2/3 of the total gross profit contribution. Despite the supply chain constraints, Cisco's contribution grew the most to over half the total product mix. Working capital, Slide 22. The H1-to-H1 comparative is the more illustrative picture. Receivables grew slightly, driven by the growth in revenues, mainly from Latin America. Days outstanding was similar to last year. Payables remained constant as increased cash went to settle trade creditors as those days reduced. Inventory levels were pretty constant year-over-year. Overall, a picture very similar to last year. Outlook, Page 23 -- Slide 23. As most businesses permanently reconfigure their work practices for a post-COVID world, the acceleration in digitization is going to continue. Telecommuting and increased remote computing is expanding cloud usage, but also creating new frontiers of operational risk. Data integrity, security and resilience are paramount concerns when moving to the cloud or hybrid cloud infrastructure. We are concerned about the growing impact of global supply chain constraints and semiconductor shortages. This will have a short- to medium-term effect on our invoicing and revenue recognition and increasingly inflate our backlog. Moving on to Westcon International highlights, Slide 25. Another very strong reporting period. We believe we are more than halfway to achieving the financial ratios and profit margins we targeted more than 3 years ago. EBITDA growth at 61% outstripped revenue growth by 5x. This strong growth did not come at the expense of looser working capital and receivables collections and cash management remain strong. There is growing demand for all networking and cybersecurity solutions. The mismatch between accelerating demand, but lengthening lead times has more than doubled the backlog from last year. Revenue and gross profit by geography, Slide 26. Without this abnormal backlog, revenues could have been significantly higher. As it was, overall revenues climbed 12% to almost $1.4 billion, and gross profit grew by 16% to $155 million. EBITDA by geography. This healthy top line and contribution growth came with good control of operating costs, allowing EBITDA to grow in all regions. Europe had the strongest performance, driving overall EBITDA growth up over 60% on an absolute basis and by 35% adjusted for the COVID-related restructuring last year. EBITDA has risen significantly over the past 2 years. Revenue by business unit and other categories, Slide 28. The Comstor Cisco business unit drives over 40% of the mix. All other vendors in the Westcon segment were propelled by continuing exceptional growth in cybersecurity. The revenues by customer type remained fairly constant. Slide 29. The Security segment continues to get larger in the mix with annualized revenues of over $1 billion attributed to providing cybersecurity. We have the broadest portfolio amongst our peers from most of the largest security vendors such as Cisco, Palo Alto, Check Point, CrowdStrike and Zscaler with others developing. This vibrant segment is complementing other sectors we provide solutions for such as network quality and resilience -- sorry, such as network quality and resilience become much more important for always-on cloud-enabled infrastructure. We anticipate over time that the value of the hardware we sell will account for less than half of the total revenues and will become eclipsed by software. Working capital, Slide 30. The strong working capital management of the past few years has allowed Westcon to pay off most of its remaining debt to Datatec. The growth in net working capital was driven by revenue growth while having to anticipate and manage around supply chain delays. Tight control was kept on receivables debtors days outstanding, but inventory had to grow as did receivables and payables balances. Outlook, Slide 31. As most organizations permanently adapt to hybrid -- hybrid office environment and home-based working, this has increased networking usage and multiply the number of security threats with increased remote access. While a lot of these technologies are software only, they ultimately rely on hardware to operate, whether these applications are run in the cloud or on companies premises or on individuals devices. The semiconductor shortages will have ramifications everywhere as will supply chain constraints. Knowledge industries and Internet companies also require hardware to operate. We expect our second half to remain typically larger than our first. Analysys Mason highlights, Slide 33. Another very strong performance marking the sixth successive year of straight-line revenue and profit growth. The catalyst of this sustained -- of this sustained growth trajectory has been both organic and through M&A, with the exponential growth of 5G and optical networks, combining with well-timed acquisitions and geographic expansion. Over this period, employee ownership in this division has doubled from 10% to 20% through performance awards and acquisition add-ons. The business has adapted well to the new ways of working. However, travel restrictions have impacted in some markets like Asia and the Middle East region. Slide 34, financial performance. The business is twice the size now than 3 years ago in terms of revenue. Over this period, EBITDA margins have also almost doubled, magnifying the effect on profitability, which has quadrupled. This harnessing of scale, sector expertise and a market-leading position in many regions has improved productivity and returns. The business is extremely well placed to exploit the acceleration of digitization and the convergence of IT and telecoms through the Internet. Slide 35, outlook. Demand remains high across all the sectors of strategy, operational, regulational -- sorry, regulation and transactional and research, even though prolonged travel restrictions remain in many markets. As an entirely people-based business, attracting, retaining, rewarding and looking after the health of all employees remains a priority. Success remains grounded in matching our expertise with the priorities of clients' needs and providing industry-leading knowledge with a very strong brand. Moving on to strategic considerations, Slide 37. We have been reviewing the structure of the group for some time now. External interest over the past 12 months has highlighted just how significant the value gap is relative to most of the international peer companies for our divisions. We engage more formally with our advisers, Lazard to set a more holistic approach to addressing the potentially significant valuation mismatch that exists between our divisions and that of the group. These alternatives, as mentioned here, are some of the considerations we will be assessing in the near term. So moving to wrap up, prospects and outlook. Last Slide 39. We are continuing to fulfill our strategies through organic developments and with M&A in all divisions. M&A has become increasingly expensive in some markets as assets are chased by industry or financial buyers looking to tap the strong demand from companies needing assistance in migrating to the cloud. The semiconductor shortages are impacting most industries, not just IT. The rebound in many economies has come against a backdrop of business tightening from last year as the pandemic spread globally. Technology has been doubly affected as elevated demand is set to continue even as supply has become more constrained. We will, of course, be updating on any important initiatives. So that's the end of the presentation. If we could hand over to the webcast for any questions.

[Operator Instructions] So Natie, do we have any questions at the moment?

We currently have no questions. So we'll just give out a minute or so. One question from Manya from Prescient. As part of the strategic review, is the delisting at Datatec level a realistic possibility?

I can answer that. When you delist in any market, you obviously need a majority of shareholders to go with that proposal. I mean it's not a -- it's not an impossible equation but to delist without the combination of private equity or other merger transaction would be unusual as, of course, the shareholders that are used to operating or need to operate in the public environment may not be able to operate in a private or own in a private structure.

Thanks, Jens. Still waiting. So far, no other questions.

We'll just give another 30 seconds. If there's no further questions, we'll -- we can wrap up and look forward to our next full year results presentation will be in the end of May -- at the end of May. Thank you very much.