Dialight plc (3HQ.F) Earnings Call Transcript & Summary

Good morning. My name is David Blood, and I'm the Chairman of Dialight. Welcome to the 2020 first half results presentation. I'd like to start by thanking all the employees of Dialight for their tremendous effort over the course of this first half, particularly in light of the coronavirus. I would also like to remind everyone that it's nearly a year that we appointed Fariyal as the Chief Executive Officer, talk about a baptism of fire. Over the course of the last 12 months, Fariyal and indeed the entire leadership team have done a tremendous job of bringing this company to a much stronger footing. Thank you, Fariyal. As you would expect, over the course of the last 4, 5 months, the Board has focused on conserving cash, increasing liquidity and driving costs down to the best of our ability. You should expect that we will continue to do so. Fariyal will talk about the results here in a minute, but I'd like to make 4 points. First, as we said, we have worked very hard at driving inventory down and are pleased to say that we have reduced inventory by GBP 7 million on a constant currency basis. Secondly, our manufacturing facilities are operating in both Mexico and Malaysia. We have essential business status and we are operating at levels that are consistent with the pre-pandemic operating environment. Thirdly, our U.S. sales force and indeed our Australian sales force are competitive advantages for the company. We have protected those folks, and we will continue to invest in our sales force and in our customer relationships. And we're very pleased to say that we believe that we're beginning to regain market share in the United States and indeed, most importantly, customer confidence. Lastly, Dialight is a technology company, and we will continue to invest in technology to ensure that our products are most advanced and most competitive. Unfortunately, we believe the pandemic will be with us for some period of time. You should expect that we will operate as business as normal, business as usual, and we will continue to drive the long-term success of Dialight. Fariyal, over to you.

Thank you, David. Good morning, and welcome to the presentation of Dialight's half year results for the period ended June 2020. As a result of the COVID-19 pandemic, we are adapting to new ways of working at Dialight. Our core values of safety extend to our employees, the communities we operate within and our wider stakeholders, including our investment community. For that reason, we have prerecorded this presentation rather than our face-to-face presentation. COVID-19 has presented unprecedented challenges across all industries and geographies. We are operating the group on the basis that it will continue to be impacted by COVID-19 for the foreseeable future. We started 2020 with our operational performance fixed our focus on execution and regaining our lost market share. We were tracking ahead of our Q1 expectations until COVID-19 hit would significantly impacted Q2 trading. We have maintained an uninterrupted supply to our customers, the majority of whom are critical businesses that have continued to operate throughout this pandemic. The operating loss reflects lower revenues, partly offset by cost savings we implemented. In response to the pandemic and likely global recession, we've undertaken measures to reduce costs and conserve cash with all discretionary spend curtailed. Net debt of GBP 18 million is an increase of GBP 1.5 million since December 2019 and largely reflects the operating loss for the period, foreign exchange movements, offset by inventory reductions of GBP 7 million. Our balance sheet remains robust, and we've secured substantial headroom by increasing our committed banking facilities by GBP 10 million. As previously announced, I'm very happy to say that we have appointed a new CFO. Wai Kuen brings nearly 30 years of experience in large listed multinationals in the industrial manufacturing and electronic sectors. She joins us at the beginning of Q4. Safety is and always will be our core value. The work we've done to embed a proactive safety culture has played a key role in how we've responded to COVID-19. We've adopted an agile approach, balancing risk mitigation and business continuity which at all times has been based on government guidelines. Our sites are open. And we have made every effort to sustain our operations in support of our essential business customers. We set up a crisis team that I lead, and this team monitors the situation on a daily basis across the business, enabling us to make rapid decisions with the constantly evolving situation. Our primary focus has been on cash and ensuring we have sufficient liquidity to weather the crisis. We've also focused on our key investment priorities to continue to develop our market-leading technology. In response to the pandemic, we've undertaken measures to reinforce our financial position and ongoing performance. The Board and executive team have taken a 20% reduction in salaries, and the Chairman is forgoing all fees for the time being. Regretfully, we've also had to furlough a number of employees and take additional salary reductions across the majority of our employees. All capital expenditure on new products was paused temporarily while we evaluated which projects will derive the highest return when the crisis is over. The group has also built permanent cost-saving plans that will be implemented in the second half of the year to improve our cost effectiveness. Our factories were closed for a period of time while we awaited essential business status. We estimate the costs relating to this period to be in the region of GBP 3.6 million. Turning to Slide 5. Our H1 2020 performance was significantly impacted by COVID-19. Lighting sales were impacted more severely than signals and components due to our sales force not being able to conduct site visits during Q2. This has meant that 60% of our business, which was from projects, virtually disappeared. We are seeing an increase in small and medium-sized orders, with order count up by more than 30% year-on-year, indicative of customers keeping sites operational, and this is reflected in our maintenance, repair and operations business. We believe we're clawing back the MRO decline we saw during the problems with Sanmina, demonstrating that we're regaining the market share we lost previously. Our gross margins, excluding the impact of COVID-19, were 34%. I've covered net debt in my earlier slide. So turning to Slide 6. We could see the impact of COVID-19 more clearly on the EBIT bridge. We had a statutory EBIT loss of GBP 5.5 million compared to an underlying EBIT profit of GBP 0.9 million in H1 2019. Overall, revenues for the half were 26% lower than the prior year. As previously mentioned, the costs we incurred while our factories were not generating any revenue was in the region of GBP 3.6 million. These were partly offset by lower travel costs and reduced operating costs from the current actions we've taken as well as the headcount reductions we made in Q4 last year. The impact of COVID-19 was seen in all our main geographical markets. All project business disappeared as our sales force was -- were in lockdown. Our sales process is very technical and requires our sales force to be engaged on-site with our customers. However, in our largest market in the U.S., we saw a resurgence in our MRO business due to maintaining our service levels despite the disruptions caused by the current crisis. Overall revenue was 28% lower than the first half of 2019. Gross margins reduced by 600 basis points year-on-year to 29%. The reduction was due to the impact of the factories being closed. Operating costs were GBP 3.3 million lower than the prior year due to a combination of lower revenue-related costs, lower travel costs and salary reductions and furloughs. Turning to Slide 8. Signals and Components is a high-volume business operating with highly competitive markets. This business has proved to be relatively resilient during COVID-19. There are 3 main elements to this business: traffic lights, optoelectronic components and vehicle lights. The OE part of the business performed strongly mainly as a result of supplying parts to the medical and telecoms market. In addition, many state governments in the U.S. took the opportunity of the reduced road traffic to upgrade traffic light systems. Due to the unexpected increase in OE and traffic orders, we have had some supply chain shortages that have impacted manufacturing. But we enter H2 with a large order backlog. The combination of these factors resulted in a breakeven position for the half year. Turning to Slide 9. We had previously stated that we were targeting a GBP 7 million to GBP 10 million unwind of inventory for 2020. By the 30th of June 2020, on a constant currency basis, we have achieved a GBP 7 million reduction. This was achieved despite making GBP 2.5 million of advanced raw material purchases. We decided on this action as some of our suppliers have been significantly impacted by the current crisis and have not fully recovered their operations. We therefore increased our level of components in May and June to safeguard our operations from potential shortages and the disruptions to the freight market that the pandemic has caused. For the year-end, we are expecting to deliver a further reduction in inventory levels without impacting the service to our customers. This slide summarizes the various movements in net debt since the 30th of December 2019, which resulted in a net GBP 1.5 million increase. I've explained most of these movements already in my earlier slides, and we'll just mention here the GBP 1.1 million impact FX had. As previously announced, our revolving credit facility with HSBC of GBP 25 million was renegotiated in February 2020, and we increased our banking facility with HSBC on the 15th of June by adding a further GBP 10 million facility on a 3-year basis by utilizing a combination of GBP 8 million under the COVID-19 large business interruption scheme and a GBP 2 million commercial loan. The group has GBP 35 million of available funds across both facilities and GBP 15.8 million of cash on hand at the 30th of June. Turning to Slide 11. This slide sets out a few planning assumptions. Our revenue performance for the balance of the year is dependent on the impact of COVID-19 on the global economies in which we operate and any further enforced factory shutdowns. Turning to Slide 13. Operationally, we've had a very good Q1 with market-leading lead times for our products. The major challenge was ensuring that our facilities remained open. Our Penang facility closed in March for a total of 6 weeks and did not reopen till the end of April. Our Mexico factory was closed for 3 weeks in April while we awaited essential business status. During this time, we were required to pay all staff and incur the fixed cost of our production facilities. We also had 200 employees classified as vulnerable under Mexico guidelines. This group's salaries are protected until the 31st of August 2020. The restarting of our manufacturing facilities in May was not without its challenges due to the social distancing measures, which required significant rebalancing of the production lines. Penang and Mexico have ramped up production well and are close to normal service levels, particularly for lighting products. Overall, operationally, we continue to make significant progress with on-time delivery at 84% and lead times at pre-COVID levels. This provides us with a solid platform as conditions improve. Turning to Slide 14. This slide summarizes just a few of the measures we've implemented in our operations. We continue to review what is appropriate as we move forward. The key to success within our operations continues to be a sustainable supply chain. Our products are complex with a large variety of SKUs, and therefore, managing the supply chain is not straightforward. We have been focused on negotiating key supplier agreements and more actively managing those relationships while we're ensuring we have no single source components. We are pleased to say that we have managed to extend credit terms with approximately 60% of our supply chain, and we expect to see working capital benefit in H2 2020. We are now focused on cost reductions for our critical components at the same time as sourcing more locally to avoid the disruptions caused by extended transportation. Turning to Slide 17. We have revisited our new product development projects to assess which projects will be critical as we emerge from this pandemic. Dialight is a technology company, and our technology-enriched products are our biggest differentiation. Hence, we need to preserve this strength while working through these challenging times. We have restructured key projects that are critical in maintaining our leading technology position and filling our portfolio gaps in the heavy industrial space. Our engineering team have been involved in a number of special projects that will enhance and strengthen our business, including supply chain initiatives to reduce inventory and locally source more components, in addition to increasing our factory productivity by streamlining some of our processes, such as burn-in times. We are using the technologies that we developed in 2019, such as a new power supply, to upgrade our existing product range, and this will result in significant cost reductions. These projects were targeted for the first half of 2020 but have been delayed until Q1 '21 due to cash-conserving measures we put in place. In our largest market, the U.S., a strong performance for Q1 was negated by the lockdowns and customers and distributors not allowing visitors onto their sites, resulting in orders falling by 31% for the half year. This fall has 2 main parts, which I'd like to explain. Firstly, we are seeing an increase in small and medium-sized orders with order count up by more than 30% year-on-year, indicative of customers keeping sites operational, and this is reflected in our maintenance, repair and operations business, which performed well. We believe we're clawing back the MRO decline we saw during the problems with Sanmina, demonstrating that we are regaining the market share we lost previously. Secondly, the project business, which accounted for 60% of U.S. orders in 2019, largely disappeared during Q2 due to the inability to enter customer sites to evaluate solutions. The U.S. market started opening up in June, but only about 10% of our distributors and customers were taking face-to-face meetings. There is still very little project activity, but we have recently started quoting for larger orders, showing some recovery, and the pipeline is improving. Moving to EMEA. This region exceeded its revenue target for Q1, but saw a significant slowdown in orders as the crisis resulted in most of the region being in lockdown. Many of the industries we sell into ran skeleton staff and did not allow contractors on-site with many projects put on hold. EMEA has a smaller MRO business compared to the U.S. and Australia, resulting in the current crisis impacting them harder. Moving to APAC. Australia had a strong H1 2020, and is 9% above H1 2019, driven by strong order intake in the mining sector. Asia had a poor Q2 with most countries disrupted by lockdowns. Our obstruction business consists of lighting systems for cell phone towers in the U.S. The slowdown in orders has been the result of reduced CapEx spending on tower upgrades as general contractors have avoided putting personnel at risk with travel and hotel stays. Turning to Slide 20. I'm pleased to say that we have maintained our service levels throughout the pandemic, and that is creating a very positive response from our wider customer base. This slide sets out some of the sales initiatives we've actioned during the first half of the year. To pick on a few of them. Despite not being able to visit customers, we have maintained our experienced U.S. sales team to ensure we provide good service levels to our customers. We have used this time to provide extensive product training internally and externally. We've also had targeted marketing campaigns focused on key sectors and in promoting the benefits of using our fixtures. Together, these sales initiatives and our better operational performance are helping us recover our market share. Turning to Slide 21. The pandemic is revealing new insights into our shared sustainability challenges. The effects of COVID-19 will be with us for some time, but the severe health impacts might be stemmed sooner with an effective vaccine or treatment. There is no vaccine for the climate crisis. Sustainability is at the core of everything we do at Dialight. We believe the action and momentum triggered by the events this year will prove a powerful catalyst for sustainability. Addressing racial, gender and economic inequality likewise requires both urgent and sustained actions across multiple fronts. We draw strength from our diversity as an organization. In addressing the many inequalities, to create that change and do our part, we have created our Dialight Foundation. COVID-19 is causing real hardship across the world, including in some of the communities where we have facilities. This is not just about Dialight being a good employer, but about giving back to the communities in which we live. So to summarize, the year started well, and performance was on track until the start of Q2 when the pandemic hit. Our end markets were significantly impacted due to the global lockdowns and our sales force not being able to conduct on-site visits. Our strong focus on sales is evident in the market share gains we have achieved on the MRO business. Operationally, we've maintained good service levels. We've taken actions to cut costs and preserve cash. These include raising additional debt and a waiver of our existing covenants till September '21. And we expect further inventory unwind in the second half of the year. Turning to Slide 23. Finally, the outlook for the full year. I don't intend to read out the outlook statement, but the key messages are as follows. Firstly, we continue to ensure the well-being of all of our employees, customers and communities as a priority. Secondly, we continue to expect net debt to be at similar levels to the end of 2019. Thirdly, from a trading perspective, there remains a range of potential outcomes although the recent trends have been slightly more encouraging. Longer term, we feel well placed to grow, driven by the attractive market drivers, our ability to reclaim market share, underpinned by our stronger operational performance. I would like to take this opportunity to thank all of my colleagues for their commitment and hard work during this unprecedented time. If you have any questions, please get in touch directly or through our advisers, and I look forward to seeing all of you face to face at the full year results. Please stay safe, and thank you for joining us.