DEUTZ Aktiengesellschaft (DEZ) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by. My name is Emma, your Chorus Call operator. Welcome, and thank you for joining the DEUTZ AG 9 Months 2020 Results Conference Call. [Operator Instructions] And I would now like to turn the conference over to Leslie Iltgen, Head of Investor Relations and Corporate Communications. Please go ahead.

Good morning, everybody, and welcome to our conference call on the 9 months results. With us today are our CEO, Dr. Frank Hiller; and our CFO, Dr. Andreas Strecker. Mr. Hiller will give a brief update on the business and point you to the key highlights of our 9-month results. Mr. Strecker will then cover the financials in more depth, as always. At the end of the call, we will be happy to answer any questions you may have in our Q&A session. Also please let me remind you that this call will be recorded. A replay will be available on our Investor Relations website after this call. Before I hand over, also please pay attention to our usual disclaimer that you will find in the presentation. It is now my pleasure to hand over to our CEO, Mr. Hiller. Please go ahead.

[ Dear ] ladies and gentlemen, warm welcome to our Q3 results 2020. Jumping on the overview. And what we can say for Q3, that we have an significant improvement on operating profit compared to quarter 2 2020. So we can definitely say that we have reached the lower end in Q2. Q3 was an improvement. And also, for Q4, we see further improvement. And the market trend is upwards, but on the other side I think it will take a little bit longer than we have expected to return to the pre-crisis level. So besides market, we are really focusing on our long-term strategy and also focusing on saving costs. On the strategy side, service is a focus, our profitable service business. And here we took further steps. We acquired DEUTZ Austria at the beginning of Q4; and this gives us now a direct market access to Austria, Czech Republic, Hungary, Slovakia and Slovenia. So you will see that later on that our service business is running well and is not that much affected by the crisis. Another important topic, for sure, is our China strategy. I will also update you on the China strategy. And Q3 was also in the big focus of our Transform for Growth efficiency program. So the improvements we did in Q3 are mainly caused by consequent cost improvement versus market recovery. So going on the next page, Page 5, to have a closer look on our efficiency program. The target you see on the right side is to reduce the annual costs from 2022 onwards by EUR 100 million yearly. The main areas of actions are the optimization of our global production network, especially here taking our opportunities in China now into account and have also much more local production in China, use this also for our European products. Also automatization and digitalization is in the focus, not only for the operating processes, also for the administrative process. And all this ends in a group-wide streamlining of the organization to be more efficient. By doing all these measures, the consequence is to reduce the personnel staff. So here the focus is to reduce 1,000 positions worldwide by the year 2022. So within these 2 years now, these 1,000 positions should reduce, for sure, on a very social way. We have so far reduced, by the first 9 months in this year, 490 positions by natural attrition and also reduction of temporary workers. We have our voluntary program in place to reduce further another 350 people. This is running since 2 months, this program, so we expect that this is running until March next year, and we are here on a good way. All these measures and especially reduction of personnel causes restructuring costs, so here we put this EUR 38 million restructuring costs into our Q3 results in 2020. So the Transform for Growth program will be an important basis for long-term competitiveness of DEUTZ in the future. Jumping on our China activities. As already mentioned, we took over an existing plant of SANY, a small engine plant in Kunshan. Capacity last year was 7,000 engines, and we are now upgrading this plant to a volume of 20,000 engines in the year 2020. Besides this, our factory which we are doing with BeiNei, where we are producing the DEUTZ engines as contract manufacturer by BeiNei, this is in place. And production will start in 2021 for the engine models 2.9 and 6.1. Also, besides the small SANY plant, where we have now the volume of 20,000, we are starting the activities in Changsha for SANY. And why Changsha? Changsha is -- well, is the headquarter of SANY. And here is also the production of the trucks which SANY launched last year, and therefore this is out of logistic reasons. It makes very much sense to have these new engine plants with a forward capacity later on of 200,000 engines in Changsha. This will be ready in 2022, will have a demand of 80,000 engines in the year 2022. And in the meantime, we are building up a brownfield plant in an existing building of SANY with the equipment of the new factory. And this will also be able to produce another 20,000 engines already next year. So as you know, we raised our target to EUR 800 million turnover in 2022. And China is really running very well. I think, if the corona crisis would have come 1 or 2 years later, maybe we have -- we had the possibility to compensate all the downturn in Europe and in the U.S. by our upcoming China business. Right now the volume is still very low, but it will pay off in the future. Going on to next page and showing you a little bit some picture as to what is going on. I start on the right-side bottom. Here you see the existing Kunshan plant, where we have now the capacity of these 20,000 engines. On the left side: The activities are going on with the brownfield plant in Changsha and also building -- setting up the new building for the new engine plant in Changsha. On the right side on the top, you see Tianjin in China. This is our cooperation with BeiNei. The factory is more or less ready and we are ramping up the production, and we'll start at the beginning of 2021 with the 2.9- and 6.1-liter engine. [ And then ] we look at the sales figures. And here you see the negative effect of the crisis we have. Comparing the 9 months in 2020 to the last year, new orders were down by minus 29%, unit sales minus 30.3% and revenue even more by minus 30.7% (sic) [ 32.7% ]. Main effect was the coronavirus, for sure. There's also reluctance in investment by -- on our customer side, but also there's, I would say, a limited effect by the prebuy engines. This will now go out now, but the main effect is the coronavirus. You see that revenue is more down than unit sales. This is caused by a negative product mix. You have to take into account that also here the Torqeedo products are in this chart; and we raised the unit sales in -- on the Torqeedo side more or less dramatically, nearly doubled the figures up to 24,000 electric engines. Taking out these electric engines by Torqeedo on the unit sales and just have a look at the DEUTZ engines, the effect will be even more dramatic. So we have here a negative effect of around minus 40%. So means that we are really hit quite hard by the corona crisis. That's a bad thing. The good thing, for sure, is that the fleets of construction equipment and also on the agricultural side, these fleets, they will have a higher age in the future. And those business will come back and there will be also postponing effect, and for the next years, we see a recovery and having back these, more or less, lost engines. Orders on hand, we are on a level of EUR 250 million compared to last year September. The level was on EUR 375 million, so you see here that we also have a quite big decrease on the orders on hand. Sales figures now for Q3 year-on-year...

[indiscernible].

Sorry. Sales figures Q3, if we compare Q3 to Q2. Here you see a good improvement. So new orders were up from Q2 to Q3 by 61 -- 16.1%; unit sales, plus of 2.7%; and revenue, plus of 10%. So more or less here we see a significant improvement to Q3. And this is more or less related to all the segments and all the markets. This, we can also see on the next page, revenue on the key regions. Americas was hit and very hard by the crisis. For the 9 months comparison, it's a minus of more or less nearly 50%; Africa, Middle East 37.4% (sic) [ plus 0.5% ]. Europe was minus 30.2% (sic) [ 32.1% ] is in line with the overall company revenue reduction. Germany and Asia Pacific is better than the average. Looking into comparison with Q2, we see in all region an improvement. Then revenue with focus on the application segments. Here you see that material handling is hit quite hardly by more or less -- more than 60%. The background is that this is very much related, this business, to the U.S. And then also rental companies are the customer here behind, and they have changed their investment policy completely. So they are very cautious and stopped, more or less, investing in new equipment. I think, if the market clears up, that will go completely into the other direction. Agricultural machinery also down, nearly minus 39%. This is also related to some customers being active in the focus of corona areas and being hardly affected by that. And then construction equipment, minus 29% (sic) [ 34.1% ]. Stationary equipment is a little bit better. And here you see our service business which is quite stable, also caused by the measures we have taken, just a downturn of minus 3.3% in comparison to last year. Also comparing Q3 to Q2 on the application segments, we see an increase in more or less all segments, service, agricultural machinery, material handling and miscellaneous, yes. This is so far from the market side and about strategy. And I'm handing now over to Andreas Strecker for the key financials in detail.

Yes. Good morning, everybody. As you can see on the Page 13, on the left-hand side, we cut the losses in Q3 more than enough, 59% improvement to minus EUR 15.7 million. That is before exceptional items. In the first 9 months, we record an EBIT of minus EUR 65.6 million, with an return on sales of minus 7.1%. One of reasons is the sharp fall in revenue and related to these economies of scale due to COVID-19. And we also had EUR 10 million payments for continuation agreements with suppliers that went through insolvency proceedings. Yes, it cost EUR 10 million, but we could maintain production and had time to reallocate to other suppliers. We had demand-related impairment losses recognized on development projects of EUR 5 million included in our Q3 total numbers. We had, of course, big efforts in cost-cutting measures. We used short-time work. We waived 1-year variable bonuses for 2020 in the Board of Management. And then also senior managers waived a substantial part of [ the annual ] bonuses for 2020. We recorded in Q3 EUR 37.8 million for restructuring costs and related to Transform for Growth, yes. And we think that these EUR 37.8 million are sufficient to do all the restructuring that we planned. The loss of EUR 104 million also, of course, is driven by the decline in EBIT. If I go page 14. How did the business segments perform? Compact engines was hit quite hard, as we could see [indiscernible] of engines in various applications. Unit sales, minus 42.2% reduction to 71,000 units. The revenue went down by 38 million (sic) [ 38% ]. And we recorded a loss of EUR 67.6 million before exceptional items, and that translates to return on sales of minus 10.1%. DCS, customized solutions, fared quite better in new orders with minus 10%. Of course, there the prebuy effects were small from previous years. Revenue, minus 18%; and still a positive EBIT of 4.8% in that segment driven by a strong service business. If we look at the segment others on Page 15. There you can see that Torqeedo and Futavis were doing well. We have a positive order intake. Unit sales, driven by the trolling, yes, engines in Torqeedo, up 85%; revenue up 35%. And we reduced the losses to minus EUR 9 million. That's driven by operational improvements, but also in previous year we had the deconsolidation of the Argentine business, in the first half of 2019. On the Page 16, R&D spending and capital expenditure. Of course, we are saving, but we continue on the R&D side to invest in future products like [ E-DEUTZ and ] products for China, bi-fuel engines, CNG engines, yes. So the investment to secure the future continues. Then on the capital expenditure side, we reduced expenses by 8% to EUR 55.8 million. That's including EUR 17.4 million resulting from leases. If we look at the cash flow from operating activities in Q1 to Q3. We are at minus EUR 19.4 million. We were positive in Q3, which is a good thing. Also then, on the working capital side, we can see here that we have a major reduction in working capital. We have weekly meetings to reduce all inventory, and we are in a good way here. If we look at free cash flow then. That's minus EUR 78.8 million, certainly driven by the negative EBIT. Same is true for the net financial position in the minus EUR 111.6 million. This included IFRS 16 positions. Without that, the net financial position would be at minus EUR 65 million. When we look at equity ratio and funding. We are -- still have a very healthy balance sheet with equity ratio of almost 46%. On the funding side, we increased our lines by EUR 150 million earlier in the year, so we have lines available now for EUR 310 million. Of that, EUR 160 million mature in June 2024 and EUR 150 million in November 2021. Currently we have drawn EUR 65 million of that. So there is sufficient liquidity available in the years to come, and so from that segment in the funding side, we are very flexible to do what we have to do and there is no concern on the liquidity. [ So that's on the ] financials. We will be waiting for your questions then.

[Operator Instructions] First question comes from the line of Charlotte Friedrichs with Berenberg.

The first one will be on current trading now in the fourth quarter. Can you give us a bit of an idea of how the order intake has developed now that we see the second wave in Europe and a number of other regions becoming more meaningful? And is there any impact on your supply chain, so far? The second question would be on your comments that you think it's going to take a longer period of time to get back to pre-crisis level. I know this is probably a long shot, but what's your best guess sort of 3, 4 years? Or what kind of level are you thinking about? And then thirdly, on the exposure to rental companies. In a normal year, what percentage of your revenues usually goes towards rental customers?

Okay. Ms. Friedrichs, I would start current trading. I think the trend we have seen in Q3, this will go on. Looking at the regions, really China and Asia is -- especially China, is on a pre-crisis level. In the U.S., that's still very, very difficult, but we had really a very tough time in Q2. So that -- this also starts to be a little bit more normal. And in Europe, it's, yes, in-between. So we see also now after summer break that there is a certain recovery. And we are optimistic for Q4 that this will go on. That's more or less first question. Recovery period will take longer. That's the second question. How do we see that? So this is more or less a short-term, yes, perspective which we have. We don't know exactly how the problems with the crisis are going on right now. Second mild shutdown is -- I will say, is not affecting us so much, and our customers, but we have a lot of inefficiencies because we are sending people home in quarantine and so on to be really sure that we don't have to shut down the factory. I think this is very much, yes, depending on how the crisis on corona crisis goes on and what will be the measures and -- or especially the countermeasures. So we are right now in the phase of doing our planning for next year and also the midterm planning. And so we will have to see how this works on, but I think, at the beginning of the crisis, we thought maybe it will be a sharp downturn and then we will have an upturn and maybe 2021 will be already, yes, more to normal. I think this will be also from the market side still a challenging year. So we'll have to see and -- how long this will affect us, but it will be a question if it will be 2022 or 2023 to be more or less on a normal level. Third question. In a normal year, I think -- in a normal year, how big is the dependency on rental? I would say it's around 20%, 25%. And it's very much related to our segment material handling. And it's very much related to the U.S. market, but I think in the long term this will change because, also the Chinese market, they are putting more focus on rental companies and also on the segment of material handling. So I think this will go on, the development to shift more towards rental company on the customer side.

[ If we look at ] supply chain. We are monitoring very, very closely. And so far, we were able to manage [ so far the year ] to be honest, and also going forward in Q4, but managed to bring the material in that we need to bring in.

Okay, perfect. So also on the casting side, the onboarding of the new suppliers has been smooth so far.

Yes. I mean to bring new suppliers, on the casting side, in is always a process that takes some time, but we are making very, very good progress there. We also have no more business dealings with Gusswerke. So we have sufficient inventory and it's going as well as expected.

[Operator Instructions] Your next question comes from the line of Richard Schramm with HSBC.

Yes. A couple of quick ones from my side. So first, you mentioned this 350 head count reduction on a voluntary basis until March next year, which quite obviously then covers most of your restructuring charge. Where do you stand here? How many of the contracts necessary here fixed? Because I could assume that, at the moment, people are quite reluctant to take voluntarily this opportunity and might prefer to stick to their working place here. So what happens if you will not be able to achieve this as planned? Should we then prepare for an additional restructuring measure in 2021? And second question: You mentioned that this prebuy engine effect would have been very limited, so far, and would fade out now. I thought we would see also something like this spilling over to 2021. Is this no longer the case? Or is 2021 free from this negative effect then?

Yes. Maybe about our voluntary program. So we started this more or less 2 months ago. And for sure, there are a lot of discussions going on in between HR and potential interested employees of DEUTZ to take this voluntary program. Here we are really, I would say, in line with our planning. And we are confident that we see and we find these 350 people by the end of March. That's the plan, and here we are on a good way. And if this will not happen, there is already a social plan in place. And restructuring cost which we have put into Q3, as it was planned and announced, covers more or less these 350 people, not depending on is it voluntary -- is leave out of the voluntary program or out of the -- later on of a potential social plan. So more or less, this covers these 350 people. Prebuy effect, that was the second question from your side. We think -- and it's not easy to have a real transparency on that because it's in the stock of our customers. And this only goes by having a lot of discussion with our customers. We think that it is a number of around 5,000 to 10,000 units on the customer side. That means overall the effect was around 35,000 engines. We are now more or less in the last [ 1/3 ] of this engine volume. And I think this will fade out now.

Okay. And just a clarification. So this social plan you mentioned. Then this will then definitely bringing no additional costs, so more or less this EUR 38 million we saw now in Q3 will cover this complete program, either be it voluntarily or not.

No additional costs, no additional restructuring costs. It's -- it more or less goes into the other direction because the conditions of the social plan are less interesting for the employees than the voluntary program. This was the design of the social plan also to convince the people to go in that voluntary program.

Your next question comes from the line of Frederik Bitter with Hauck & Aufhäuser.

There are a few questions from my side. I mean the first one I will really start with is the elephant in the room, which are your 2022 targets. And obviously I hear your commentary. I see what you're writing in the report. And obviously the longer recovery post corona is obviously noted. If you were to postpone the sales target, say, by 1 to 2 years, which for instance [indiscernible], one of your customers, has done just recently, would you be still be able, thanks to the restructuring measures, to achieve the 7% to 8% margin target? I know it's obviously very, very much a theoretical discussion now because you still have those targets, but I'm just thinking hypothetically.

Yes, Mr. Bitter, when we announced that the target, more or less, this was, yes, 3 years ago. And we said, okay, within the next 5 years, if we take the right defined measures and -- we will bring the company on a level to 7% to 8% EBIT margin. I think there's no question. This is absolutely valid, but the second thing we said, it has to be -- it takes 5 years because, all the measures, they have to take place. And they have to bring all the benefits, but on -- the second thing we said, it has to be -- in the year 2022, it has to be a normal business environment. It has not to be a booming year, but it has not to be a crisis year. And so we are still confident 7% to 8%, yes, and the measures are delivering the right results. So China, to that time, I would say, was not expected to be that much successful. Also now the additional benefits to the program Transform for Growth was not really included, but it was also not included, the extraordinary business and market environment. What we are doing right now is to do our planning for next year budget and also the midterm planning for the next 5 years. And we will see how the market conditions out of today's perspective will be for the year 2022, how our people on the sales side see the market. And yes, that's more or less the answer, but there's no question to bring that company with the measures we have in place on the 7% to 8% EBIT margin.

Yes, that's a very good reminder that obviously those targets are pre the upgraded China guidance and then also obviously pre the restructuring measures announced now. That's well understood. And then that brings me nicely to the second question because, when I think about all this, I mean, there is a lot of discussion now in the market and a lot of news flow on alternative drive technology. And you still have this 5% to 10% share of sales. Also I think it's for 2022, but I was wondering if you could give us an update on how demand has developed there. Is it like -- is the crisis now a facilitator for this trajectory into alternative drive systems? Or is it holding back investments a bit because everybody is saving or trying to save cash and looking at that CapEx, et cetera more tightly? Just some thinking around that will be very helpful, I think.

Yes. That is more or less in the same direction. So we announced this 5% to 10%, and there was a dramatic interest, in the past, in these new technologies. And this is still existing, but all our customers, more or less, they have the same problems like we have. And they are now -- they are still interested, but in some cases they are postponing the programs. In our case, we said, okay, this electrification and also what we are doing on hydrogen with the hydrogen combustion engine, that then what we -- the top priority in the future in this business will come back, maybe even stronger. And so we said we will no -- we will not make any compromises on this new technology, on this strategy. Thanks to our sound balance sheet, we have not to make any compromises here. And so we are really going on with these, our development and engineering activities, but as you more or less expected, some of the customers, they are now postponing the programs. There is no canceling of the programs because everybody sees and knows that, if the virus is over, there will be still a CO2 problem and this will come back, but in some cases they are postponing right now the programs. And also this will be an outcome of our midterm planning, what we are doing right now to see how this could lead to a postponement of this target of 5% to 10% which we have announced.

Okay, understood. And then -- and the last one I had is for Mr. Strecker, on -- just on the guidance for working capital and also CapEx for 2020, just a bit of housekeeping here.

The working capital, we -- in Q4, we see, we'll see further reductions from the level that we see right now. And when it comes to investments, I think it will be in the EUR 70 million range, when all is said and done, in 2020.

Yes, okay. And I was expecting something along that line on the CapEx front, definitely. Okay, that makes sense. And something around working capital around maybe EUR 250 million or something. Is that a kind of ballpark number...

Yes, in that neighborhood, yes, yes.

Perfect, yes. That's great.

We have a follow-up question from Richard Schramm, HSBC.

Yes, 2 questions, please. One, just concerning this R&D topic you mentioned and with impairment of EUR 5 million you mentioned on development project. Is this an example where a customer delayed such a development? And if so, isn't there a chance that this, as you just mentioned, [ will CapEx ]? Or why is this impairment then? Or was there another background behind this? Maybe you can shed a bit light on this item. And second question, concerning this material handling segment. Just to be clear: I mean, when you speak about rental customers, it's always these aerial lift platforms. Is that correct? Or what is included here? Because material handling is a wide range of possible equipment. And I thought that also forklift trucks would see an increasing part of this in your product portfolio, but maybe that's not the case. So maybe you can also give a bit more background to this one.

Okay, Mr. Schramm. Then I will start with the impairment. We have some EUR 110 million roughly in R&D value in the balance sheet. And of course, there are regular depreciations, but also then we have to have regular impairment tests on each and every one of these items. So these are roughly 30 different products that are there on the balance sheet. And it happened that, 2 of these, we decided to eliminate all the value that we had on the books because we were not so certain from the recovery of the market whether these products can keep their value. So that's a normal process, and in line with the uncertainty when market will come back, yes, we decided with the auditors to wipe the slate clean, so to speak, and reduce risk going forward.

On the material handling, Mr. Schramm, this is covering, yes, aerial work platforms but also forklifts in our case. The segment material handling is majority today is aerial work platforms. There is a difference in the way how rental company or how rental business works. Also for forklifts, for sure, a lot of the equipment is rental equipment. In this case, a lot of the producers of forklifts, they have their own rental company looking more into the business of aerial work platforms. This is different. The -- in this field, the rental companies are mainly independent companies. And you will also find that -- rental companies also for construction equipment. And I would say, as more simple the product is and as more standardized, it's -- it has a good fit to rental companies. So all the standardized products are focus of rental companies.

Okay. And just to give a rough figure, let's say, or a split, how much is these aerial working platforms? And how much is forklift trucks in your segment here?

I would say right now it's maybe 80:20. So 80% aerial work platforms because forklift business is a niche business, except -- with the exception of the customer KION, which is a big customer and will be a big customer in the future, but here we are in the ramp-up phase. So yes, I would say ratio is 80:20.

Next question comes from the line of Mr. Heimbuerger, Kepler Cheuvreux.

Dr. Hiller, Dr. Strecker, I have 3 short questions, if I may. First of all, has pricing pressure recently intensified in the last 2 quarters, [ effectively, please ]? Do you see that customers are delaying services? Is there some kind of pent-up demand? And certainly very quickly: I know that you don't give a guidance for 2020, but the consensus currently assumes Q4 sales of EUR 360 million and an EBIT loss of minus EUR 5 million. Assuming that things are not getting worse from here regarding lockdowns, do you feel comfortable with these numbers?

Okay, maybe start with a question. And Andreas, you can add something. On price pressure, I think right now there is the normal price pressure we have. It's not [ additional price ] pressure which we see. On the service side, delaying services, [ yes, during a ] crisis also, this is always a measure which you can take, but the interesting thing is that, a lot of our customers in the construction industry, they are doing quite well. They still have a lot of business, but the outlook is not predictable. And so they are on the cautious side. They are not buying new equipment, but on the service side we don't see that they are really dramatically postponing service activities. And Q4, I think, yes, we are in that corridor. This -- it will be, for sure, an improvement to Q3. And I think it will be our best quarter in this year. If it will be possible, that will be a question. I think that would be quite ambitious. Looking back in the quarter 3, the last month, September, was the best month, yes, in this year and giving us a good, yes, perspective for Q4. I think, yes, with the guidance more or less which you have mentioned, they could be in-line, yes. If I had the -- save the sky is not falling, what you said, something extraordinary happens, I think we feel quite okay with the consensus.

And there are no further questions registered at this time. I would like to hand back to Leslie Iltgen for closing comments.

Then thank you, everybody, for joining the call today. Should there be any follow-up questions after this call, then don't hesitate to contact us at the investor relations department. We'll be happy to answer any questions you may still have. Other than that, I wish you a good remainder of the day and a successful week. Cheers and goodbye.

Ladies and gentlemen, the conference has now concluded, and you may disconnect your telephones. Thank you for joining, and have a pleasant day. Goodbye.