Forterra plc (FORT) Earnings Call Transcript & Summary

Well, good morning. And welcome to our virtual results presentation, which we sincerely hope will be our last virtual results presentation. Here's hoping. I'm going to start on Slide 4 and just talk through a few highlights of 2020. So look. You don't need me to tell you that 2020 was a challenging year both not just our business but our customers' businesses as well. I think certainly in the first half of the year we were guided by the health, safety and well-being of our employees and making sure we looked after them, so we shut most of our business down until we learned how to operate in a COVID-safe manner. So that was a real useful guiding principle for us to start. I think we were pleased with the finish to the year. We had a solid finish to the year, with much better trading condition towards the end, and that's allowed us to now confidently recommend a dividend for 2020. We made good progress at Desford, in our new brick factory construction, during the year, which we'll talk more about later. And we're also going to talk a little bit more today about the progress we made on our 10-year sustainability targets that were set in 2010 and the new targets that were set going forward. I think probably the key point to make here is our customers are being very positive about the year ahead, and that positive sentiment is certainly very encouraging for us. So with that, let me hand over to Ben to talk through the numbers.

Okay, so moving on to Slide 6, key financials. And I guess, first of all, good morning, everyone. Unsurprisingly, our results for the year have been significantly impacted by the coronavirus pandemic, although there are a number of encouraging aspects to highlight. We closed the year with an EBITDA before exceptional items of GBP 37.9 million and a PBT of GBP 17.4 million, both well ahead of our expectations as we emerged from lockdown last summer and a slight beat on our most recent [ guidance ]. Our ability to generate cash has always been a key strength of our business, and this was demonstrated again in 2020 by an operating cash generation of GBP 53.9 million, a fall of only around GBP 11 million on 2019. Our EPS has fallen to 6.6p per share, reflecting the fall in profitability and also the issue of 28 million additional shares last summer. We closed the year with net cash of GBP 16 million pre IFRS 16, leaving us in a position of strength moving forward. Just a quick clarification. Our dividend of 2.8p per share represents 45% of full year earnings before exceptionals, in line with our stated distribution policy. It won't actually compute as 45% of EPS, as due to the equity raise in the year, we calculate the EPS on the average number of shares and the dividend that's calculated on the year-end number of shares. So moving on to the next slide, Slide 7, profit and loss account. Firstly, this slide summarizes the exceptional items that we have added back to provide greater clarity on our trading result. In total, we've incurred exceptional items of GBP 22.8 million in the year. This includes cash restructuring costs of GBP 5.3 million incurred in reshaping our business in response to the pandemic. This was lower than the GBP 10.5 million anticipated at the half year, with the speed of the recovery allowing us to reduce the number of redundancies from the initial 225 down to a lower figure of 160. The bulk of these redundancies related to the mothballing of the Bison hollow-core flooring plant at Swadlincote. That's in response to an expected decline in demand for this product. If you'll recall, hollow-core flooring is primarily used in flats and office development, both types of building where we expect to see lower demand in the foreseeable future. Our other cash-based exceptional item was GBP 3.2 million of arrangement and professional fees incurred in amending and extending our banking facility. The costs of the equity raise are deducted from the proceeds and therefore do not show in our income statement. The remainder of our exceptional items comprised noncash impairment charges totaling GBP 17 million, including GBP 10 million in respect of the Swadlincote plant and GBP 6 million in respect of a historic goodwill balance relating to our Formpave block paving business. In response to previous feedback, we've included a note in the announcement detailing the income statement headings that the exceptional items have been charged to. So next, moving on to the next slide, Slide 8, half 1-half 2 performance split. I guess, sort of shortly, the year was very much a year of 2 halves. The first half was impacted heavily by the first lockdown, although we've seen consistent improvement in the second half of the year such that, by the end of the year, brick and block revenues were running ahead of the prior year comparatives. Full year revenues fell 23% relative to 2019, with half 1 falling 37% but half 2 showing only a modest 9% fall as the recovery gained pace. As you'd expect, this drives a marked improvement in profitability in the second half of the year, with EBITDA of GBP 29.7 million compared to only GBP 8.2 million in the first half. Our Bespoke Products segment made a loss at an EBITDA level in the first half of the year but recovered to make an EBITDA of GBP 0.5 million in the second half, in line with our guidance that, that return to profitability in H2. Our finance expense is driven by both the level of borrowing and the interest rate we pay. In the first half, we borrowed our RCF in full as the pandemic emerged, increasing our interest cost. I'll give some further guidance on 2021 financing costs later on. So moving on to the next slide, so the segmental results for brick and blocks on Slide 9. So looking at our brick and blocks segment: Revenue fell 20% relative to 2019, broken down as 37% in H1 and only 2% down in H2. Given our consolidated market structure, we cannot report sales volumes, as they would be commercially sensitive, but government figures for the U.K. brick industry show that U.K. brick dispatches fell 23% relative to the prior year. And our own sales volumes followed a similar trend. As a reminder, our profits are both a function of sales and production; and that production restarted more slowly, allowing inventories to introduce some benefits in cash flow, but this weighed upon our profitability in the year as we were unable to fully absorb our costs. While sales were closer to normal in H2, our production was lower as we gradually brought our factories online. Our full year brick production was around 35% down on the prior year, with this being a 47% drop in half 1 and a 20% drop in half 2. This 20% is very much an average across the second 6 months period, with production returning to normal by the end of the year but being at a much lower level as we started July. Our block businesses slightly outperformed bricks, with a smaller volume drop relative to the prior year driven by shortages of timber leading to changes in the method of construction. So people bought more blocks, [ in effect ]. Sales prices were generally agreed of the -- ahead of the pandemic, with cost inflation in 2020 being relatively benign. Importantly, there was no degradation of sales prices during the year. And the price [ negotiations ] at the end of 2020 also delivered a low single-digit price increase sufficient to recover cost inflation heading into 2021. Our result in this segment also includes a nonrecurring cost of GBP 2.1 million which was incurred on exiting forward energy contracts where we couldn't use the energy we had forward purchased due to the pandemic and we had to sell it back to the market at a loss. Looking ahead, our energy costs are currently stable, and we have already purchased a large percentage of our anticipated energy usage for 2021 at prices that are aligned to 2019. Moving on to Slide 10, Bespoke Products segmental. So within Bespoke Products, our revenues fell by 30% across the year. That's a greater level than we've seen in brick and block. This is primarily due to the impact of mothballing the Bison hollow core plant at Swadlincote; but also due to the slower pace of the initial recovery seen with our flooring products as housebuilders initially focused on finishing existing plots as they emerged from lockdown before starting new plots, which is where we use the flooring product. We've consolidated the manufacture of our flooring products back at our Hoveringham plant. Whilst we continue to manufacture hollow-core flooring, we will produce less of it and will be more selective on price. We still manufacture nonflooring precast products at our site on the Swadlincote facility. It's important to remember that our group overheads and central costs, which in 2020 totaled around GBP 18 million, are allocated between our 2 operating segments, with Bespoke Products absorbing GBP 3.6 million of costs in the year. This means that the segment actually contributed GBP 1.2 million to group EBITDA in 2020. Our expectations for 2021 revenues in this segment are for revenues to be around 20% lower than 2019 levels. That's driven by the mothballing of the plant at Swadlincote. And we also expect profitability levels to recover. Next slide, moving on to the cash flow. So as I mentioned earlier on, our cash performance is a highlight with this year's results, with strong operating cash flow performance driven by the strong trading in the second half of the year; and also a favorable working capital movement, including a GBP 14.8 million reduction in inventories. Our cash spend on exceptional items totaled GBP 5.6 million on restructuring costs, including some amounts that were already provided in the 2019 results. All spend on restructuring is now complete. And we also spent GBP 3.2 million on arrangement and professional fees associated with refinancing our banking facilities in the year. We raised net proceeds of GBP 53 million from our equity raise last summer securing the funding of the Desford project. GBP 19.5 million was actually spent on the Desford project in the year, bringing our total spend to GBP 32 million, with a further GBP 47 million committed on equipment contracts in January. Our guidance for Desford spend is now GBP 41 million in 2021, GBP 18 million in 2022 and the final GBP 4 million in 2023, bringing the spend to a budgeted GBP 95 million. Our guidance for non-Desford capital spend remains at GBP 12 million per annum. Our tax payment of GBP 5.2 million partly relates to 2019. A year ago, I was telling you that 2020 will see higher tax payments as we moved to paying all of our corporation tax liability in the year. Without the pandemic, we would have otherwise seen an increase in the tax payments during 2020 as those rules take effect. Moving on to working capital. So this is Slide 12. This slide highlights the success of our working capital management actions during 2020. For much of the year, we ran the business with a focus on cash rather than profit. We only have reopened our facilities when our inventory levels demanded it. Reopening sooner with uncertain demand could have increased profit, but if the recovery had defaulted, we would have filled up our stockyard, creating ourselves a problem coming into this year and tying up cash unnecessarily. Therefore, inventory reduced by around GBP 15 million relative to December '19. And if you look at it from the end of March, kind of as the start of the pandemic, the inventory reduction was actually GBP 24 million from the end of March. Our customer payment patterns have returned to normal. And although we took advantage of some government tax deferrals during the last year, those have now all been repaid in full, and our tax deferrals are now fully up to date. Moving on to the next slide, Slide 13, just a quick look at our balance sheet net debt. So we ended the year with a very strong balance sheet with cash of GBP 16 million before leases. Our credit facility totals GBP 170 million, extending to July 2024. Following our refinancing last year, we're currently paying a higher rate of interest at LIBOR plus 4%, but this will reduce to lower levels based on a leverage grid from 2022 and for the remainder of the facility. So for 2022, our rate will be LIBOR plus 1.75%, assuming our leverage remains below 1x. Currently, our low borrowings mitigate the short-term increase in our financing costs. And our guidance for our financing costs for 2021 is around GBP 4 million, with much of this driven by commitment fees on unborrowed funds. Depending on borrowing levels, interest costs will reduce significantly in 2022. So that concludes my canter through the numbers, and I'll hand you back to Stephen for something a little different.

Thank you, Ben. Let's move on to talk a bit more about the business in general. If I can start on Slide 15. We're in the middle of results season and a lot of our customers are reporting at the same time. I'm not going to read out the quotes, but the sentiment from our customers, I think, is positive for the coming months. That's not just in the new build residential market but also in the residential repair, maintenance and improvement market. And I think also, on top of that, we've seen a positive government budget which supports housebuilding. So if I turn the page, and let's look at the brick market overall. Our customers reacted -- sorry. Our competitors reacted in very much the same we did and our customers did, closing operations in March, April last year to work out how to run safely. And then what we can see and what we witnessed was a pretty clearly V-shaped rebound in demand as we came into the second half of the year. What that did is meant that we saw a fairly sharp decline in inventory, and brick stock levels are now at pretty much near-record lows. I think what this demonstrates is that our industry acted rationally, sensibly, safely to protect both customers and employees and customers. At the same time, we saw the volumes of imports fall in 2020 pretty much in line with the fall in the overall brick market. I think I would have expected imports to fall slightly further, but right towards the end of the year, we know that some of our distributors were also stocking up slightly on imported bricks ahead of Brexit and some concerns around transport and availability of transport immediately after Brexit, so I think what I would expect to see this year is imports be slightly softer. So if we turn on to our own brick sales in 2020 and going through on Slide 17. I mentioned rapid V-shaped recovery, which was encouraging. And a figure that's been put out by quite a few housebuilders is they're now expecting completions to sit around 85%, 90% of 2019 levels. And I think, if we look at the graph on the slide, you can see that our sales volumes are pretty much running at that 85%, 90% of 2019 levels and have done for a few months, which is consistent with what we're hearing from our customer base. Moving on to Slide 18 to talk about Desford. Look, I think, despite the pandemic and despite the challenges, our team and the contractors that are working for us have done a terrific job and made really good progress last year. As a reminder: We are spending GBP 95 million on Desford, on the new factory. And this is expected to anticipate an annual EBITDA of GBP 20 million once fully up and running. That's a significant step change forward for our business, and it's getting much closer. So we will commission the plant in 2022 and we would expect to see the profitability coming through from the plant into our numbers in 2023. So what's been quite a long-term project is suddenly -- it goes quite near term now. And great progress being made by the team. Also last year, despite the pandemic, we continued to innovate. We continued to look for new ways for our customers to build. Traditional brick work is always going to be the core of our business, but we've got some customers that are looking for alternate solutions to put up fire-safe, durable brick facades on buildings without having traditional skills on site and sometimes reducing (sic) [ increasing ] speed and reducing waste on site. We've developed and will continue to develop solutions for our customers to be able to build brick facades without traditional brick-working skills. So moving on, I'd like to talk a little more about sustainability, but before I continue, perhaps I can give this a bit of perspective. So when we're making the bricks to build a house, we generate approximately the same amount of carbon as your average family car generates in 1 year. The difference is we'd expect a well-built brick house to be there for 150 years. Just look at Victoria in London now. So the real sustainability story here is about longevity and durability. The circular economy often talks about recycling at end of life, so it very much talks about what happens when the property comes to the end of its life. Can we destroy it and recycle it? Actually, our argument is it isn't about destroying and recycling a property. It's about building it really well in the first case so that you've got lots and lots of opportunities for many, many families to circle through that house and lots of generations go through the same property. Brick houses can be upgraded and improved over the years, so the real sustainability story is, if you build something well to last, it's inherently sustainable. I'll talk about our performance, sustainability performance, shortly but would like to take this opportunity to explain where our emissions come from. So you've got scope 1, 2 and 3 emissions. So scope 1 emissions, so everything, all the emissions that come from our own manufacturing processes, things that we directly control. Scope 2 is the indirect emissions from the electricity that we purchase. And then scope 3 is all the other indirect emissions from generally things that we procure, so raw materials, et cetera. If you look at our business and you look at our clay products and our concrete products, these are quite different things. So our clay products, we extract our own raw materials and we control that process, so we have very few scope 3 emissions. Most are scope 1 and 2. Our concrete products, we buy-in cement, steel aggregates from external suppliers. And so the emissions for those externally bought-in goods are -- sit with our suppliers, so they're scope 3 emissions. So we have a lot more that we can do to control within our own scope within our clay business, and we need to look and work with our suppliers on our concrete business. If I just turn the page on to where do our emissions come from. So probably the first point to make here is that we buy all of our electricity from renewable sources, so we have no scope 2 emissions. So everything we're looking at is scope 1, and our emissions primarily come from 2 places. One is the natural gas that we burn in our kilns, and the second is the process emissions as we bake out clay. That naturally gives off gas and emissions, so within our clay business we need to focus on our kilns and our processes to further improve our emissions. So I mentioned at the beginning that, in 2010, we set what were ambitious 10-year targets for our business. And this is the last time that you'll hear us talk about those targets and it's the last time we'll report on them. We've made significant progress over the 10 years. And we're pleased with the progress we made, particularly almost eliminating the waste that we put to landfill. When we come to look forward at setting our new targets, 2020 was a highly unusual year, as we all know, with many of our kilns shut off and lots of -- and our business operating in a very different way and, as Ben said, us selling significant amounts of inventory rather than replenishing all of that inventory, so we've chosen 2019 as a sensible base on which to build our new targets. And if we turn the page to 25, there's a lot of detail on the page, but we look at the new targets. So our targets and commitments are split into 3 pillars: planet, people and product. On the planet, we are supporting the race to 0 with an ambition to be net 0 as a business by 2050, but we've got to set some targets in nearer term that we can work towards and challenge ourselves, so we've set targets that by 2030 we'll reduce our carbon intensity. That's a 33% reduction in emissions per tonne of clay bricks that we make and an 80% reduction in emissions per tonne of concrete products that we make. On the product side, we will continue to develop new sustainable products and increase the revenue from them and have set ourselves a challenging target in growing our business in that area. We also need, as I said, to challenge and work with our suppliers to reduce our scope 3 emissions. On the people side, there's nothing new about our ambition to 0 harm. We want an accident-free workplace. We had a much improved 2020. And that remains a key priority for us, but we also need to further increase the number of people in earn-and-learn positions, so graduates, apprentices, people being put through training programs. And we've joined the 5% club and have committed by 2025 to have 5% of our workforce in earn-and-learn positions. And then finally, we remain committed to diversity and having an increasing and more diverse workforce. Flicking the page to how do we do this and when do we do it. There are kind of 3 ways of looking at this and 3 types of technologies. There's new technologies that are here today. So our Desford brick factory will use new technologies and be significantly cleaner and more sustainable than the plant it replaces. Then we're working with emerging technologies, so for example, electric cars, looking at electric mobile plant. We're currently trialing electric forklift trucks. So how can we use emerging technologies and be at the forefront of using those technologies as they come through? And then finally, there's breakthrough technologies that we have to invest in research and development and partner with universities and other organizations. So looking at alternate fuels for kilns and ways of carbon capture. This stuff does not necessarily [ answers for yet ], but we're committed to working with others to find answers. So we believe we made good progress in 2020. There's quite a lot on Slide 27 from planting trees; to electric cars; to becoming an accredited real living wage employer, making sure that we pay a good, sensible wage that people can afford to live on. And then finally, on Slide 28, I would like to talk about plastic. It's always struck me as slightly odd that bricks that are going to sit in walls for 150 years are wrapped in plastic when they leave a factory. And that's something that's really only come in over the last few decades, but we're committed to taking that plastic out. And by 2025, we're halving the amount of plastic packaging that we use within our business. Finally on sustainability: As I said, our products are inherently sustainable, but we can do more. But we can trace our business back 150 years. We've employed generations from the same families over many years, so we believe we've got more reason than most to make sure we've got a sustainable business to continue to employ generations for years to come. Let me move on to the outlook. We've talked about the much improved trading conditions. What we saw in the back end of 2020, we've seen continue into the early part of 2021. Our customers are talking about positive order books and a continued recovery, but we also recognize we're still in the middle of this pandemic. It's not over. We've heard talk about different variants and risks to vaccines, so where we've -- we are optimistic, we do remain cautious. And I think, until we're really out of this pandemic, we're not going to be that clear on what the next few years look like, but overall we think the fundamentals for our business are very strong. We've got a strong balance sheet and a strong business and we look forward positively to the future. So on that note, let me hand over to our operator and open up to questions.

[Operator Instructions] We have a few questions submitted, and our first question comes from the line of David O'Brien from Goodbody.

Firstly, if I could, just while we ended on sustainability, it's probably the best way to start the questions. How should we think about the CapEx requirements to reach these targets over the medium term in terms of your emissions targets? And in terms of paying for these, I assume the aspiration is to recover this in price. Where do you think the burden falls? Is it the builder? Is it consumer ultimately? Or -- and how do you see that playing out? And maybe you could put some context on the 10% revenue and from new and sustainable products by 2025. Are we up ground zero on that, or is there already some progress? And maybe give us some color on what the successes have looked like there. Secondly, you noted through the presentation that, during the second half, a slower start-up to production has caused you some efficiencies within the clay business. Could you quantify maybe what you think the additional costs or inefficiencies have held profitability back by there? And yes, I think that's enough for now.

Okay, well, David, thanks very much. Let me take the first few. So if we look at CapEx for reducing emissions, I think the -- for the existing technologies and the emerging technologies, that, we expect to be broadly covered by our maintenance CapEx. So things that we replaced. So take forklift trucks. We have to buy new forklift trucks. If we buy electric ones, they'll be cheaper to run. They may cost a little bit more to buy, but we think that will be absorbed within our normal CapEx and OpEx. For the breakthrough technologies, it's far too early to say. So what we have to spend to convert a kiln to run the hydrogen, we don't know. So I think we're a bit too fast into the future and there's too many unknowns on that one. In terms of who pays for it, it's a good question. Again in terms of the current and emerging technologies, I think it does not that much to our cost base. The breakthrough technologies, again until we know the magnitude of the cost, is a difficult one to say, but I would expect, if it adds costs but it adds value in other ways to customers, we'd be able to recover it. But really early to comment on that. And then the revenue from new products. Look, we've made some good progress. We've got some good new people in our business, category managers, product managers, looking at R&D innovation. I don't want to give too much away because I'm sure that my competitors have dialed in and listened to the call. So let's not go into too much detail on that, but yes, we've made a start. And go back to the slide that I talked about offering new solutions for customers and new ways of building brick facades but not just brick facades but new ways of building. That's certainly where we'll be looking. Perhaps, Ben, do you want to pick up the financial one?

Yes. I mean it's difficult to give an exact answer, David, but if you look at the sort of the brick and block segment, say, as I said earlier, that sort of the revenues are only 2% down in the second half relative to the prior year, but if you look, the profits are about GBP 9 million or GBP 10 million down. So I think a big chunk of that is through to lost production efficiency. So probably somewhere in the region of GBP 6 million, GBP 7 million of that is probably lost production efficiency. And as I say, we realized GBP 15 million of working capital by reducing our inventory. So it's, kind of to lay a finger on it, probably in the ballpark of GBP 7 million or so.

Great. If I could have just one follow-up, if I may. Did you say on the concrete business you're expecting revenue to be 20% lower? And I think you said profits to recover. And if so, could you give us a little bit more color on the comment that profits to recover? What type of level should we be thinking about for 2021?

Yes. I mean I think the guidance on the revenue of the 20% drop is based on 2019, is because we've mothballed that factory at Swadlincote. So we're selling less product, although we'll be more selective of the product we do sell and try to get a higher price. In terms of the guidance on EBITDA, I mean what we're guiding to is further progression. So we got back to a modest kind of EBITDA in the second half of the year. We'd like to continue to grow that. Ultimately, we want to get back to 2019 levels, but whether that's possible in 2020 or not -- 2021 or not obviously remains to be seen, depending on the market. The other thing that's just worth quickly flagging on Bespoke Products is when I said cost inflation is being pretty benign across the rest of the business. One area where we have seen some significant cost inflation in the last 3 months or so is on steel which we're using to reinforce the precast concrete products. And we've seen steel prices increase by around 50%. And we're working very hard to make sure we recover that from our customers, but obviously it does remain as a risk.

We have our next question coming from the line of Aynsley Lammin from Canaccord.

Three questions from me, please. First of all, just on January and February trading, I wondered if you're willing to give a like-for-like number. Is it in-line, better than last year? And maybe a bit of color around the RMI and new housing side. And second question, just in terms of production efficiency, are you now back up and running as normal? And if volumes were to get back to '19 levels, would you -- demand were to get back to '19 levels, would you be able to kind of satisfy that at a similar type of margins? And then just thirdly, on the lease liabilities, they seem to have come down quite a bit from the previous year. Is that just the closure of the plant? Or what's happened there?

Yes. I think, let me pick up all of those. I mean Stephen may want to chip in on the January and February trading, but just at a very high level, January and February trading is broadly in line with the prior year. I think we started the year well. Thinking back a year ago, before the pandemic, it was very wet. This winter had been slightly different. We have had some cold weather as well, but overall through January and February and sort of averaging across our products, I think we're broadly in line with the prior year, which in itself was broadly in line with 2019. So positive start. Do you want to add anything, Stephen?

No. I think the only thing to add is that's both come from RMI and new housing actually, pretty consistent with where we were last year.

Okay. Moving on, say, production efficiency and margins. Yes, we're now running the business effectively at full capacity again. So if demand stays strong, we can meet that demand, and if demand does fall off a bit, it will give us the opportunity to replenish some inventory. So actually we benefited from that inventory reduction last year. That gives us a little bit more flexibility this year. If we had filled our boots last year, that's fill the stockyards right up, and then this year we found that kind of the market softened a little bit, we'd then be facing taking off production because we've got nowhere to put the stock. So starting where we are now with the very low inventories gives us room for the new [ rounds ]. So hopefully, the market will stay strong and we'll be able to sell it all, but if not, we can replenish some inventory.

I'll just jump in there, Aynsley, because it's an expensive thing, standing a factory, particularly turning the kilns off in the brick factory. So having done that last year, as Ben talked about in the presentation, we didn't rush them back as -- on day 1 and we allowed our inventory levels to drop a bit. And that gives us a little bit of -- although that didn't help us last year, it gives us a little bit of insurance as we go into this year. If the market softens a bit, we're comfortable to build a little bit of inventory and not have to take sort of very fast or very dramatic changes to our production output. So I think we took probably a little bit more pain last year to give ourselves a bit more comfort this year.

Okay. And then finally, on lease liabilities. They -- yes, it has nothing to do with the plant closures. So the biggest part of our lease liabilities is our heavy-goods vehicle fleet. So we operate around 155 specialist crane-equipped delivery vehicles which we use to deliver around 70% of our bricks and our blocks. So those trucks are at 200,000 apiece. We generally lease them between -- over periods between 5 and 7 years. And what we see this year is that we've got a number of leases [ that are going ]. So a big percentage of that fleet reached the end of its lease and goes back and we end up with new trucks. So if you saw in Stephen's sustainability section, there's a picture of a nice, new blue truck. So what you're seeing is kind of the end of those old leases and then you get new lease come in. So I'd expect the lease liabilities to be at least GBP 5 million or GBP 6 million higher again by the end of 2021 as we replenish the fleet and start a new cycle of 5- to 7-year leases.

We have our next question coming from the line of Christen Hjorth from Numis.

Three questions from me, if that's okay. Firstly, on maybe going back to inventory [indiscernible] industry. And it sounds like you guys [indiscernible] in line with [indiscernible] very low levels of inventory. I mean, at what stage does -- if the market is very strong, could that potentially impact service levels? And I suppose as well, to -- the other way [ of having that ] question, do -- how far actually would you be happy to let inventory increases run if the market wasn't there? The second question is just on the balance sheet, obviously net debt-to-EBITDA -- well, in a net cash position but the low levels of net debt perhaps next year and the year after. I mean, what's your current thinking [ as for ] the right balance sheet structure for the business in terms of net debt-to-EBITDA going forward? And then just thirdly, just in terms of the housebuilders, you've put some of their comments out there [ but ] some of their build plans that perhaps they've shared with you. Is that all looking very positive in terms of recovery as you progress through 2021?

Okay, let me pick up the first one and the third one, and then I'll hand the second one to Ben. But so I think, inventory, look, inventory is low. The industry is holding a couple of months of stock. That's unusually low, as I said earlier. It probably isn't going to get [indiscernible]. In terms of what does that do, is that causing the problem? I'm not sure it is massively at the moment. And the figure that I mentioned that some of our customers have talked about publicly is completions in 2021 being at around 85% or 90% of 2019. That should, as we go through coming months, if that pans out, allow industry inventory levels to recover a little bit. Or if not and the volumes that our customers build are higher, then the inventory levels will stay pretty low. In terms of our own balance sheet, you asked how far would we let inventory levels rise. Well, ideally we don't want them to rise because we're selling the product. So in an ideal world they don't, but if we ended up back where we were when the pandemic hit, with inventory levels at about that level, I think we'd be reasonably comfortable. We -- as you know, the back end, the very back end, of 2019 was a little bit softer. We anticipated the market improving in 2020 before anyone had ever heard of the word COVID, and we allowed our inventory levels to build a bit. And we were comfortable with where they were then, so if they went back to there, I'd be equally comfortable. And then in terms of our customers' build plans, yes. I mean certainly the schedules and the plans we've got for the first half of this year are positive. As I said earlier, we need to see what the pandemic's impact is on the wider economy before we're really sure looking after -- looking beyond that, but at the moment, our customers are still taking our products, still talking positively and still placing orders for -- right into the future. So sentiment is good.

And just quickly on balance sheet structure. So prior to -- as Stephen said, before anyone had ever heard of coronavirus, we kind of targeted always having a net debt of below 1.5x earnings. I think -- where we sit here now with a very strong balance sheet, I think we're in a good position. It's probably too early in terms of talking about where we go going forward. The pandemic is still finishing. Hopefully, things will kind of be okay with the vaccine [ and everything ], but we still need to remain cautious for the time being, so what we're proposing to do is we will update the market on our future strategy around the half year. Whether we do kind of something within the half year results or whether we do a Capital Markets Day, we're not decided yet, but we will update on our strategy going forward. But for the moment, as we sort of referred to in the announcement, I think the priority is just on kind of making sure we get [ best of build ] at the moment. And just having a strong balance sheet leaves us well placed, but we are going to look at this in the coming months.

We have a next question coming from the line of Alastair Stewart from Progressive Equity Research.

I think, a couple of broad questions. First of all, following on from Christen's call: Your inventory -- sorry. Your production levels seem to have come down by a bit more than the rest of the -- than the whole industry put together [ driving fully to nice stats ]. Is anybody sort of diverging from your approach, do you think? And I also noticed, I mean, brick imports fell by about 28% last year and then seemed to tick up a bit in the latest quarter. Are you seeing any evidence of importers making up any particular gaps in U.K. production? Or is this just the -- more of the sort of specialist architectural side of things that we've seen in the recent past? That's the first, broad question. And then the second one was on the sustainability front. Are you coming under any particular pressure from the housebuilders themselves? They're obviously quite keen to display their credentials, but I don't know how much their carbon reductions derive from the material side of things. But are they kind of passing the burden really to their suppliers rather than making big inroads into their own working practices?

Okay, thanks, Alastair. So production levels. Look, I think that, our production levels last year and relative to our competitors, it all depends on where your inventory was at the beginning and where your inventory is at the end. So what I can say is our proportion of the inventory that we hold as a proportion of the total inventory is pretty balanced with our -- the -- our sales versus the total sales. So I think we've got it in broadly the right place. Now maybe we built up a little bit more inventory ahead of the pandemic. Therefore, we're comfortable in taking a little bit more out, but I think our inventory position is about right relative to our position in the market. Imports, yes. Look, they did fall and then they did pick up in quarter 4. A lot of the distributors that we sell to also import bricks. And they were pretty clear with us that they were going to increase the volumes of bricks imported in quarter 4 ahead of Brexit, with a few uncertainties around how easy it was going to be to import bricks or how easy it would be to get transport or what the transport costs would be. And if you think about it, holding a few extra bricks rather than delay complete build programs, when you start arguing about liabilities in construction, makes a good deal of sense, so it's not entirely surprising that some of the distributors imported a few more bricks slightly earlier. I think -- those bricks, I don't think those are particularly changing where the imports are going. They're still going for the specification projects. And then there are still some projects that are using -- started off using imported bricks that will continue to use them until the projects finish. So I don't see any sort of material change in the market for imported bricks. And then on sustainability -- sorry. Go on. Go back.

And -- sorry. Yes, just briefly on that [indiscernible]. You said there's more of an oversupply -- or higher stock levels on the continent versus the U.K. probably because our housebuilding has been certainly pretty strong of late. Is there excess supply over there?

Yes, I think there have been. And I think, the last year or 2 before COVID, I think certainly as we got into 2019, that industry had started operating at much higher levels of utilization across Europe. To be honest, I think 2020 has been such an odd year for everyone. It's I couldn't really comment on quite where we are in terms of continental European manufacture and stock. So probably you want to ask [indiscernible]. So I'm not going to try and make that one up, but I think certainly, prior to pandemic, yes, we've certainly seen less sort of available capacity.

Sure. And sustainability?

On sustainability, yes. Look, we're not coming under pressure from housebuilders that say, "We're not going to use products that emit carbon," because all heavy structural building products emit carbon in some way, but clearly our customers are interested in what we're doing to reduce it. And a bit like I said with our scope 3 emissions, our customers will be looking at their scope 3 emissions and be looking at what we're doing. And there is an expectation, rightly so, that we reduce our emissions and we both invest and research new ways of reducing our emissions. So I think my own view is we're very aligned with our customers on this, that it's the right thing to do, that it's going to take time and it's a journey we all need to be on together.

The next question comes from the line of Jon Bell from Deutsche Bank.

Stephen, Ben, I think I've got 2. I just wonder what you may have learned from the Desford project along the way that could perhaps help you on some of your other plants or future expansion plans. And the second one really is in Bespoke Products. I know one of the problems in that area in the past has been in discipline, probably among 1 or 2 of your peers, on price. Are there any signs of more price discipline in that market, or does it remain in the same way that it has been?

Okay. So let's start off on the Desford project. What have we learned? Well, first, don't build a factory in a pandemic, clearly the first thing to learn. On a more serious note, yes, I think there's a couple of things. We've used a very experienced team of project managers who specialize in large industrial facilities. And they're working for us and very much alongside us. And I don't want to big him up too much because [ Gino ] will probably try and put his bill up, but actually it's been really good and, frankly, I think worth every penny having that team. When Hanson and then HeidelbergCement built Measham, they didn't bring in an external team in the same way. And I think one of the things we learned from then, although Ben and I were working in different bits of HeidelbergCement when Desford was -- when -- sorry, Measham was commissioned, one of the things that we learned looking back is actually bringing some real specialists. So I think that's been a good one and is paying dividends. I think the second thing is -- as you know, we talked about one of our suppliers going into administration during the pandemic, so I guess one of the learnings there is to keep -- not necessarily stick to your preferred partner but keep a much broader range of options open. Again, would that have happened if there hadn't been a pandemic? Probably not, but I think it's been a lesson learned, but the other lesson is quite how resilient everyone has been. Not just us, but Buckingham Group are doing the groundworks and putting the building up. We've got a really good team of people that have been resilient and adaptable, so it's been really good actually to be part of that. Then you talked about discipline in the market. Look. I think the pricing has been very firm in the clay arena. So in concrete -- as Ben said in his presentation, the price increases that we agreed stuck. Actually there's no reason why they -- that doesn't continue. Concrete has been a bit harder. One of our competitors in the concrete block market has been perhaps a little keen on the give away a few discounts. And you know that within the precast concrete market, which is fragmented, pricing isn't quite so easy. So I don't think anything has changed there particularly since -- I think I said exactly the same in March last year, by the way, so I think it's pretty much the same answer -- well, the same answer as I gave in March last year.

We have our next question coming from the line of Clyde Lewis from Peel Hunt.

Stephen, Ben, apologies. I've got a bit of building work going on. A couple of questions, if I may; one, I suppose, on stock levels but not at the manufacturers but at the merchants, just as to your best guess for where things are on that front. And the other one I had was, I suppose, on price negotiations. I mean you've touched on that a little bit there, but in terms of sort of the current round and the discussions you're having right now, how are things going on that front? And what sort of pushbacks are you getting at present?

If I start with the merchant stock. Yes, I think the merchants probably did add a bit of stock towards the back end of last year, certainly for our products. I can't comment in other categories, but certainly for our products we saw that but probably make good sense if you look at how strong the market was and how strong they expect the RMI market to be. I think -- like yourself for demonstrating with your contractor's drill in the background, I think the job being builder is busy. There's plenty of work out there. People are spending money on their homes, and actually we're quite encouraged. So the stock levels that the merchants are carrying, I -- in my view, makes good sense as we go into the spring and summer season of this year. I certainly don't see it as a problem. I think we need [ that stock ] out there so that the end consumer has got it available to buy. Price negotiations. Look, it's always a difficult one. We probably did have a bit of pushback from housebuilders. And this is always a circular argument because the housebuilders always want to buy something cheaper but understandably and support their own margin. Don't we all? But at the same time, they also want to make sure they've got availability. And stock levels are low, and availability to our customers is important. And we're in a great position with our business and the assets that we operate that we can help our customers guarantee that availability, but clearly we want a small price increase to make sure we maintain our margins. So I think the outcome of that conversation was everyone reasonably happy that we've managed to retain our margin and we can talk about securing availability for our customers. And then with the distributors, look, that's all about their ability to pass those price increases through on to their end customers, and again lower levels of inventory and good demand helps that as well. So I think we didn't go into this year thinking this was a year for a bonanza price increase and let's stiff all of our customers on the back of a virus. That's probably not the way to run a long-term business. And we are a long-term business, as I've said, but I think we've been in pretty good place to recover planned cost inflation. As Ben said, the only difficulties on the precast side were steel prices have really jumped unexpectedly in the early part of the year. And we're having to go and revisit that, but that's still very much work in progress. But for the material parts of our business, the pricing is done.

Okay. The only other one I had was sort of following on a little bit from Alastair about ESG and the housebuilders and again thinking of that scope 3, but I mean obviously the mileage traveled for a brick should be a fairly large, important element of that scope 3 factor. Is that something that they've started to kick around on?

Yes. I mean I think the great thing about bricks is, of course, apart from the imports that come in, bricks are produced locally. There are plenty of brick factories across the U.K. The clay happens to be where people live, which is great, which means the distance for distribution is very short. Most construction timber that comes into the U.K. comes from Latvia, so it's coming a heck of a long way, particularly in the winter. So yes, I think the -- one of our strengths is that we produce our products very locally and very near where they're used, so they don't travel terribly far. And I think that is recognized, yes.

Yes, but obviously the debate there is domestic versus imported bricks.

Yes. Of course, it's better to use domestic bricks from a -- socially, environmentally, price and availability but maybe on [indiscernible].

The next question comes from the line of Yves Bromehead from Exane BNP Paribas.

Can you hear me well?

Yes, yes.

Yes, we've got you.

Perfect. Yes, I just have 2 questions. Maybe, just the first one, on the precast side. If I'm correct, you're mothballing the Swadlincote flooring, which is essentially what you bought off from Bison not long ago, so I guess my question is, with your view of maybe a medium-term outlook for high-rise and office building being challenged by this pandemic world, has this changed your strategy with regards to the precast concrete division which you wanted to grow through M&A? So that will be my first question. And my second one is on the dividend with your announcement today. Is -- should we think about the new norm being that you go back to sort of the 45% payout ratio? I mean I guess you will update that on the strategic update that you will do, but if you could just maybe help us in terms of thinking whether this is sort of the floor and maybe the ceiling could be higher going forward if there is no M&A and CapEx is limited after Desford.

Okay, let me pick up the first one, and Ben will pick up the second one. So I mean you're right. We bought the Bison brand and location effectively with 2 assets on it from Laing O'Rourke. The 2 factories that are there, 1 of them only produces hollow-core flooring, which goes into higher floors of both residential and commercial buildings. And the other factory produces a whole range of precast products. So we already made hollow-core flooring as well as floor beam at our factory in Nottinghamshire, and adding that effectively gave us more capacity. At the moment, the market is not there for that capacity, hence the reason for the consolidation back to all of our flooring being done at our Nottinghamshire facility. The general precast plant, the structural precast component plant on the Swadlincote site, their former Bison site, continues to operate and has a pipeline of work for the next year and is currently busy. In terms of our strategy for that, look, I'm going to -- as Ben said earlier, we have committed to updating the market on our strategy going forward later in the year, and we will do that. I think it would be premature to start talking about what happens with that site and when it comes back or what we do with it and what our future thoughts are on hollow core, premature not just for the market but also for our workforce, so yes, we will come back to you on that one in the coming months.

Yes. And just looking at the dividend, I guess, a similar answer in some respects. So yes, you're right. Our pre-pandemic dividend policy was to distribute 45% of our earnings and we've returned to that today. We will -- when we kind of look at our strategy going forward and kind of do the update to the market later in the year, we will include dividend policy in that update. I think it -- again, it would be premature to kind of speculate on that at the moment, although I think we're all aware that, as the Desford factory comes online from 2023 onwards, it will generate significant additional cash flows for the business. And then our future dividend policy will obviously take that into account, but I think [ we'll ] have to wait till later in the year for that, I'm afraid.

Yes. And we also need to -- as we do this -- the super-deduction tax breaks that were announced the other day, they're perhaps not quite as good as they sounded in the speech, but they are something we need to consider as part of our capital allocation policy and dividends. And we need to consider these things in the round because, if we have 2 years where we have some potential tax benefits, maybe we're better to do the -- do things quicker rather -- than we might have done, anyway, but bring things forward slightly. And that has an impact on capital allocation, so let's -- we'll do the work on that and we'll come back to you in the coming weeks and months.

Great. Maybe if we can just add one quick question: On the energy side, you said that in 2021 you're expecting sort of a flat environment, and that's because you hedged some of your requirements in 2019 for 2021. I guess, should we think about 2022 being hedged from a 2020 base? Or will 2022 be reflective of the inflation of 2021 on the spot market?

I guess kind of 2022 will partly depend on what happens in 2021. So we have some of our energy costs already hedged for 2022. And we, along with our [ sort of ] professional consultants, constantly monitor the market and buy kind of when the price is competitive. So I can't tell you kind of where we'll get to in 2022 yet because we don't know what opportunities to purchase 2022 energy there will be this year, but at the moment, the energy costs looking forward are relatively stable relative to 2019. So what you've seen recently is, back in February, when the cold weather hit, there were some short-term spikes driven by the fact it was kind of there was no sun for solar, no wind for wind power and it was very cold, but actually, more longer term, the market is relatively benign. And the energy prices that we could buy on the spot market for 2022 at the moment aren't too different than 2019. So we continue to bide our time. And we always look to try and fix energy kind of before the actual winter -- the most volatile period for energy is the winter, so you don't want to go into winters with big unfixed positions because that's when you get hit from the short-term spikes, but we will continue to monitor that. And I'm sure we'll make more purchases through this year to make sure that we're certainly fixed in the winter. In the summer, we can be a bit more speculative because energy doesn't generally fluctuate in the same way in the summer as it does in the winter.

There are 2 more questions in the queue, and our next question comes from the line of Ami Galla from Citigroup.

Just 2 questions from me. The first one was on the Fletton bricks business, if you could give us a sense of how the business panned out in 2020. And what's the outlook for that, especially in the backdrop of the sort of trends that we've seen in the RMI market? And the second one was a more general one. As you look at the [ sort of price ] and you get into pricing negotiations with the housebuilders, I was wondering. Are there any changes in terms of the lengths of the contracts that they are contracting on pricing here? Is it still a 1- or a 1.5-years forward supply agreement that you have in place, or is it much longer?

[ Yes ]. So if we start off on the Fletton brick. Look, the RMI market has been strong. And we saw Fletton sales actually come back probably first, as back in, I think it was, middle of May last year, when builders were allowed back into people's homes, the first thing that we saw was pickup on the Fletton sales. And then we saw the builders that we sell into the new build -- bricks that we sell into new build market pick up but -- well but a little bit later. Fletton has been very consistent and very stable actually since the middle of last year. It probably very slightly outperformed the other brick sales but only very slightly last year. And what we're seeing is a real stable, consistent demand for the product, which is very encouraging. And actually, from the way we run our factories, that's exactly what we want to see, so we're really pleased with that market. And then the pricing: Not particularly. There's been 1 or 2 people looking for 2-year deals, but generally it's been 1-, maybe occasionally 2-year deals. I think we have an opportunity to think a bit differently with our customers as we bring Desford online back end of next year, but it's a little bit early for that yet. But nothing has changed dramatically in terms of the way that we're pricing.

And can I have a follow-up on the Fletton's business. Is the -- current trend you're seeing within that business, is it more -- is it realistic to see that the Fletton business can come back to the sort of '19 levels in 2021?

Yes, I mean it's early days, isn't it? The problem with Fletton -- not problem, but we don't get that much forward visibility because these are private householders contracting with a local builder who literally goes and orders the bricks a couple of days before he wants to use them. So we get limited forward visibility. Am I brave enough to say that we're back to 2019 levels? I'm not sure I am, but I am pretty confident at the moment that the market for bricks being sold to small consumers are -- is there. I guess, if I've got one slight concern, it will be builders that just exited and particularly older guys that exited the market last year. And that makes it harder to find a builder, a local builder. So not talking about the large contractors that build houses but the local builders. So I think it will be better, but am I brave as to say 2019? A bit early to say, I think, sitting here still in the winter. I'm not sure.

We have one last question in the queue coming again from the line of Alastair Stewart.

A very quick one this time, just checking whether -- on steel prices, did you say plus 50%, 5-0, or plus 15% earlier on?

Yes, 5-0. So I mean it's not a massive number for our entire business, but it is a reasonable number for the bespoke products. So we probably spend about GBP 3 million a year on that steel, so that's an extra GBP 1.5 million of cost, but as I say, we're looking to recover that from our customers.

Sure. No, it's just a broader industry thing rather than you specifically but quite a big rise.

Well, unless anyone [indiscernible] -- sorry. Go on.

No, Stephen (sic) [ Ben ], we currently have no more questions, so I will hand it back to you for your closing remarks. Thank you.

Yes. And I was just going to add, unless anyone tells me differently, I don't have any questions through the online portal either, so I'll hand back to Stephen to finish off.

Okay. Well, look, thanks very much for listening. Hopefully, in July, we'll all be together in the room, but until then, thanks very much. Goodbye.

Thank you, everyone.