Forterra plc (FORT) Earnings Call Transcript & Summary

Okay. Well, good morning, and welcome to our half year 2022 results. So I'm Stephen Harrison. I'm the Chief Executive of Forterra, and I'm joined by Ben Guyatt, our Chief Financial Officer. So look, I think Ben and I are very, very pleased to be able to present what are our best first half year results yet for our business. And on the back of that, we're able to slightly increase the Board's expectations for the full year. So good start to the year. And I should thank our employees, first of all, because when we're busy and we're in a period where labor is quite hard to come by, I think everyone in our business has worked hard and put a massive contribution in. So thank you to them. Our markets are robust and strong. So our core markets, our new housebuilding and the home extension market, which is a subset of that RMI market, the repair, maintenance and improvement market, and that home extension market remains strong and robust. And in fact, all of our product sales have been very good and kept a really good momentum in the first half of the year. And perhaps I should just highlight our precast concrete business. And the team there have done a really good job raising the margins and raising the performance of that business. We continue to see both high demand and capacity constraints, which has allowed us to pass on the cost inflation that we've seen come through, and we expect to be able to continue to do that. And our business, as we've talked about many times, is very highly cash generative. And on the back of that cash generation, you can see we finished the first half with a strong cash position. Hopefully, our strategy is pretty clear. We continue to organically invest to grow our business and add shareholder value. The project up at Desford in Leicestershire, where we're building a large new factory, is now nearing completion. And we're also investing in 2 other factories, 1 at Wilnecote in Staffordshire and 1 at Accrington in Lancashire, where we're adding capacity and investing for the future. So on top of our investments, we're also pleased to be able to announce today an interim dividend of 4.6% -- 4.6p, I should say, which is over 40% higher than the interim dividend we put forward last year. So with that, I'll hand over to Ben. And at this point last year, I hand it over to Ben with a picture of a crematorium, but I've upgraded him to a care home this year.

Good morning, everyone. So it does seem slightly strange, actually. This is -- I've been doing this job now for 2.5 years, and this is the second time I've actually presented to you guys in person. The last time was at this '19 year-end. So it's great to be able to see so many of you again, although I was hoping probably for a few more. I know a few of you had problems with the rail strike this morning. So that's a shame. So for simplicity, we have reported against our traditional prior year 2021 comparative, although I will also make reference to the key 2019 comparators where appropriate. And that in mind, we have included additional slides comparing the result against 2019 in the appendix. I will talk exclusively about adjusted numbers in this presentation, although again, we have provided a reconciliation to the statutory numbers within the appendix. The story of our first half is one of an excellent financial performance. We have seen sales volumes slightly ahead of the prior year, restricted by capacity and inventories with revenue growth primarily driven by selling price increases, which despite strong cost control, have been absolutely necessary in recovering the significant cost inflation we've continued to see. Our half 1 earnings per share of 13.5p represents an increase of 45% on the prior year, driven not only by the strong trading performance, but also with the benefit of the share buyback, reducing the number of shares that we have in issue. Our cash generation has always been a strength of our business, and that continues to be impressive. And like our profit performance, our cash flow from operations of GBP 37.5 million is our best ever half 1 performance. We closed the period with a strong net cash position of GBP 24.1 million, having spent GBP 21 million on CapEx during the period and having also returned over GBP 20 million to shareholders in the first half through our share buyback program. This will lead to a strong interim dividend, as Stephen said, of 4.6p per share, 44% increase on last year's 3.2p, and we continue to use an approximate 1/3, 2/3 split between our interim and final dividends. So picking out the key highlights for the profit and loss. Our revenue has increased by 24% relative to the prior year, off the back of similar sales volumes. This highlights the successful delivery of our price increases. This drops straight through to our PBT of GBP 37.3 million, which is an increase of 38% on the prior year and tellingly, an increase of 14% on half 1 2019. We've seen strong EBITDA growth in both of our segments, and it's particularly pleasing to see the improved Bespoke Products performance. Our EBITDA margin is slightly ahead of the corresponding prior period, but importantly, is well ahead of the 2021 H2 margin, which was 17.6%. We have a significant reduction in our financing costs, driven by our balance sheet strength, meaning that we had to borrow very little money in the period. Also, our credit facility returned to a normal margin grid at the end of last year, basically ending a period of COVID-driven variations that increased our finance costs. Just a quick word on tax. I often say that we're a very simple U.K. business. And as such, we would expect our effective tax rate to be close to the statutory rate of 19%. That is as expected. So our effective tax rate was 19.7%, in line with those expectations. Last year, we had a slightly higher tax rate as a result of the deferred tax charge arising from the future change in the headline corporation tax rate, which is expected to increase to 25% next year, or at least it was until we have a concern [ as to ] the leadership debate. So it'd be interesting to see whether that increase of corporation tax rate actually happens next year. So if we move on to look at the segmental results. So first of all, Brick and Block. The Brick and Block segment is the primary driver of the results in our business, and that's seen a strong performance in the period. So brick sales volumes were 3% ahead of the 2021 comparative and in line with 2019. May and June 2019 were particularly strong comparators. Product availability, driven by our capacity constraints, was the primary barrier to doing even better. We further depleted our inventory levels during the period with industry brick stocks still at record low levels. Demand has remained strong across all of our sales channels. Sales of our London bricks remain buoyant, demonstrating the continued strength of the home extension market as a subset of the much broader wider RMI market. Cost inflation remains a continuing challenge, although we have demonstrated our ability to recover this with brick price increases of 16% in January and a further 12% in April, so taking prices to 30% ahead of the 2019 exit prices. The segment EBITDA of GBP 44.3 million was 17% ahead of the prior year. And whilst margins fell slightly relative to the corresponding period, they represent a significant improvement on the H2 2021 margin of 21.4%. With the second price increase, the 12% that we put through in April only kind of been in place for half of the period, we've seen further margin progression in the last few months. Our forward purchasing of energy has partially mitigated the impact of rising energy costs in the period. Energy prices have risen steeply again in recent weeks and even more steeply yesterday, although we have secured 85% of our half 2 requirement, substantially insulating us from this uncertainty in the shorter term. We've also purchased around 40% overall of our energy for 2023 with the greatest coverage in the first quarter. We do expect an increase of energy cost next year as our historic forward purchases that we made several years ago roll off. The magnitude of the increase will depend on the market and therefore, impossible to quantify at this stage. So moving on to our second segment, Bespoke Products. It's pleasing to see a much improved performance in the period. Revenue has increased by 19% year-on-year despite the closure of the Swadlincote Bespoke facility in the final quarter of 2021. The improvement in performance, driven by the Bison Precast Flooring business in particular, is attributable not only to our ability to [ recover ] cost inflation but also for making the most efficient use of [indiscernible] reduced footprint, allowing us to be more selective in the work that we take on. EBITDA before overhead allocations has increased to almost GBP 5 million in the half. I think I've explained before that this business, the overhead allocation is fairly arbitrary and probably penalizes this business with the overhead that we attach to it. If it was a standalone business, it wouldn't need that amount of overhead. So therefore, given its modest capital employed, we feel that this business has delivered a really attractive return in the period. So if we go and move on and have a little look at our cash flow. As I said earlier, the consistent ability to generate cash flow has always been one of our strengths, and this is reinforced during the period with an operating cash flow of over GBP 37 million. Our capital expenditure in the period totaled GBP 21.3 million with Desford accounting for almost GBP 16 million of this. Again, we have realized -- sorry, against this, we have realized almost GBP 3 million of proceeds from the sale of 2 disused pieces of land, demonstrating our ability to maximize the value we extract from our asset base. We returned just over GBP 20 million to shareholders in the period through our share buyback program, which when added to the small level of fees and stamp duty, gives us a total cash outflow of GBP 20.8 million in the period. In addition, we have purchased a net GBP 6 million worth of shares for our Employee Benefit Trust, which will be used to satisfy our employee share scheme arrangements in due course. This is consistent with our preferred policy of not issuing new shares for this purpose. This is not an absolute cost. In the future, there will be an inflow, albeit at a lower amount from the company's Save As You Earn scheme, which allows employees to purchase shares in our company at a discount. So if we move on to CapEx. So this slide summarizes our CapEx guidance for 2022 and beyond. We have provided separate guidance on the 3 major strategic projects that we are currently running. We expect total capital spend to be around GBP 50 million this year and a little less than that next year. In the second half of this year, we expect to spend a further GBP 14 million, which includes an element of capitalized commissioning costs on our Desford factory, which will bring the total project spend by the end of the year to just under GBP 90 million. This project is still expected to be delivered to the original GBP 95 million budget with the final GBP 6 million payable in 2023. The proactive rescheduling of the Wilnecote project has led to a rephasing of spend with 2022 spend now expected to be around GBP 6 million. The project to add brick slip manufacturing capability to our Accrington factory is progressing with the main equipment supplier now recently selected. And we've previously guided that we expect to spend around GBP 12 million a year on maintenance CapEx over the longer term. In 2022, rather, we expect that spend to be close to GBP 12 million. Although looking ahead, given the current levels of inflation that we're currently seeing, we've now increased that guidance to GBP [ 14 ] million going forward. At working capital, just to draw out the key points on this slide. So our working capital remains tightly controlled. And whilst we have an expected seasonal increase in working capital relative to the year-end position, we have actually removed GBP 5 million from our working capital relative to the June 2021 position. Whilst our inventories have increased by GBP 3 million relative to the year-end, this increase is driven by an increase in valuation due to rising cost of production. And looking at brick specifically, the number of bricks in stock actually fell further during the period. Given the strength of our current trading and our outlook for the rest of the year, there is little prospect of being able to replenish these inventories for the foreseeable future. So just the final slide for me, just looking at the balance sheet and our cash position. So we closed the period with a very strong cash position with a net cash of over GBP 24 million relative to the GBP 41 million at the end of last year. Our debt facility comprises of GBP 170 million revolving credit facility, of which only GBP 10 million was borrowed at the end of June. Interest is charged on a margin grid where interest is levied at SONIA plus 1.75%, assuming that our leverage remains below 1x EBITDA. Our latest guidance for the year-end cash position is we expect the net debt before leases in the region of GBP 20 million to GBP 30 million, driven by the continued strong trading performance of the business. This will leave us well below our leverage target of less than 1x of EBITDA, affording significant flexibility going forward as we continue to pursue our pipeline of organic strategic projects where we have committed to be spending in excess of a further GBP 200 million after Desford over the next decade. In addition, we retain the optionality to deliver suitable bolt-on acquisitions should these opportunities arise. And I will now hand you back to Stephen.

Thanks, Ben. Thanks. So for those of you that are listening on the tele, it's now time to tune back in. So let me start by looking at our markets and first of all, the housing market. So as I said earlier, our core markets are residential new build and the home improvement market, and both are forecast by the Construction Products Association to continue to grow. So not only have we got growth forecast for our markets, we also see the fundamentals, particularly for new housing, are very strong. So despite modest interest rate rises, we still have a shortage of quality housing in the U.K. We have available credit, and we have high employment. So we see fundamentals for our market remaining strong going forward. One of the things for the home extension market that we track are residential planning applications. And what we can see is a consistently strong level of planning applications being put forward for home extensions, which I guess is unsurprising considering shortage of housing, valuations, mortgage availability, employment, et cetera. So particularly key for our London Brick sales and our London Brick product, which is exclusively ours, over 20% of England's housing stock are made from the London Brick, and we sell that as a matching product to the home extension market, but it's also good for the sales that we make through builders' merchants and distributors. So we're encouraged by the remaining -- the robust levels of planning applications going forward. Perhaps if I then move on to the brick market specifically. We see brick stocks in the U.K. are at historical lows and we see imports at historical highs and actually still rising. So we believe that we're very well placed at the moment as we add next year 100 million bricks per annum of effective production capacity. That's 20 million -- sorry, that's a 20% increase in our production capacity. We look at the number of imports coming in. We look at low inventory, and we look at the U.K. industry working at capacity, and we think we're bringing capacity on at the right time. And perhaps just to give a little bit of history to that. The pre-global financial crisis, the installed capacity in the U.K. was 2.6 billion bricks a year. That's now at around 2.1 billion. And with the capacity that we are adding, and our competitors are adding, that will go up to about 2.3 billion. So if that's running at, say, 95% utilization, that means we can produce about 2.2 billion bricks in the U.K. Well, that's still considerably lower than the demand today of 2.5 billion bricks. So we believe that as we add this more efficient capacity, which will produce less carbon per brick, we believe that we're still in a great place to service our customers and maintain the pricing tension that we need and maintain our margins. So let's go on and look strategically at our business. So every time we invest, we look to grow capacity, we look to improve efficiency, and we look to decarbonize. And hopefully, our strategy is pretty clear. And we've got sort of 3 pillars to our strategy, which I'll talk through briefly. So the first one, strengthening our core business. And that's really what we're doing with our Desford investment. So we're adding 20% capacity to sell bricks -- to make bricks that we'll sell to volume housebuilders. And those bricks will be -- they're in the right place. They're right in the middle of the country, so for easy distribution. And they'll -- for each brick that we produce, we'll produce less carbon, [indiscernible] less carbon. So that is very much doing what we do well but doing more of it and hopefully doing it slightly better. The second pillar to our strategy is around range expansion. And the project that we're doing at Wilnecote in Staffordshire is a good example of this. What, again, its bricks, but it's a broad range, so we're going to make blue bricks and different colored bricks, bricks that we can sell to architects at a higher price point and expand the range of products that we offer to our customers and to the marketplace. So we see that as expansion and a key part of our strategy. And then the third piece, I think, is around innovation, development and new products. And the project that we announced at our factory at Accrington in Lancashire is a good example of innovation and product development, where we're going to make brick slips or thin bricks, as they're sometimes called, which will sell into the modular housing market, but probably more specifically the high-rise building market to allow builders to put efficiently and effectively a lightweight brick cladding on high-rise buildings. So we believe our strategy is very clear and primarily focused on organic investment to grow our business and grow shareholder value. If I just -- we talked about the Desford project a few times now between us. And if I just do a reminder, so we're spending GBP 95 million. And despite the cost inflation that we've seen, we -- at this point, we still expect to remain within our original budget. It will add, as I said, 20% of -- to our effective manufacturing capacity. And by the time the factory is at full speed, we expect it to deliver an incremental annualized EBITDA of GBP 25 million a year. And I should remind you that the barriers to entry in our business are pretty high. So we own extensive clay reserves. We've got some fantastic factory sites with all the utility connections in great parts of the country. And our strategy is very much about investing in those sites and investing in the clay reserves that we've got to really take advantage of that and drive shareholder return. So we'll -- the Desford project, we're going to commission in the fourth quarter of this year, and we expect that to be delivering bricks and delivering profits in 2023, and it will reach full production in 2024. So the first full year of financial numbers you'll see that GBP 25 million will be in 2025. But you'll see growth from the end of this year right up to 2025 as we drive profit and cash generation from that factory. So I just mentioned cash generation. As we both said, we are a highly cash-generative business. We dig up raw materials for a lot of our business, and we convert them in factories that are generally paid for, which generates a lot of cash. And that, in turn, allows us to further invest, and it's almost an ever-increasing circle. As we further invest and we further grow our cash flows, we are well placed to increase returns to shareholders as well as grow our business going forward. And as I said, we'll start to see the impact of this strategy in 2023. And in many ways, it feels like this has been a long time coming, but that's the nature of organic investment and grow your own factories. But as from 2023, we'll start to see these projects roll through and the impact on the P&L. So I've talked about the 3 projects, but we've still got a bigger pipeline of projects to follow that. So we've said over the decade on top of the Desford project, we expect to organically invest GBP 200 million in our business. And I guess the pointer to that is that earlier this year, we spent just under GBP 2 million buying extra clay reserves up near our Wellington location, which is near Leeds, which allows us to secure another 4.5 million tonnes of clay. So we are now looking at when we develop that site and working on that project. So obviously, we're not ready to announce a timetable, but the fact that we're spending money on clay reserves indicates that we're pretty serious about this pipeline of future development. So let's move on to sustainability. Look, I've talked about decarbonization already. It's a key priority for us. And we set out this time last year some challenging new 10-year targets for sustainability. And perhaps as well as decarbonization, I highlight a couple. I mean, one of them is around developing people and skills. There are skill shortages in the U.K., there are skill shortages in that business, and we have to make sure that we're continuingly bringing people on and developing the skills that we need. And that's a big priority, and that's what sits under the people pillar of our sustainability strategy. Obviously, planet, a lot of that's about decarbonization. But perhaps if I move on to the product pillar, again, we've -- over the years, we've used a lot of plastic to wrap our products. And at the moment, we're putting a lot of effort into how can we use a lot less plastic. So there's a lot of really key things here on top of decarbonization, which we're working on within our sustainability agenda. And I think if I look at some areas of progress this year. So we have reduced our carbon emissions since we set the targets. So since the benchmark of 2019. We announced that we've entered into a 15-year Power Purchase Agreement to fund a solar farm, which will generate 70% of our electricity so that we are in control, not only of our electricity generation, also the price that we pay for our electricity, which has probably come on a daily basis more important. We've recently announced a combined investment of just over GBP 4 million to put solar on the 2 new factories, the roofs of the 2 new factories at Desford and Wilnecote, which allows us to generate electricity on site, which not only gives us electricity, but also takes away some of the transmission costs of delivering the electricity. I talked about plastic packaging a moment ago. And from August, we shall stop wrapping our bricks up at Accrington in plastic and instead just use a little bit of plastic around the middle to hold the pack together to make sure it's secure when we're transporting it, but quite a big change for us here and dramatically reduces the amount of plastic that leaves our factories. And that will then roll out at our other factories in time. We're running trials this year at firing bricks with hydrogen. And this is an experiment. We've not done this before. We need to know what it does to the brick. We need to know what it does to the kilns, but it's a pretty exciting thing to be working on. So lots of work going on, on that. And we're also looking at carbon capture. And we've partnered with an organization at the moment looking at how we can bring some technology into one of our brick factories and running a feasibility study on that. There's lots of technology out there for decarbonization and carbon capture, but there's not a lot of it that's been industrialized. And it is down to companies like ours to actually take that technology and industrialize it. So some exciting projects that we're working on. And then finally, we're looking at the use of cement substitutes, including calcined clay, which has a cementitious property, and we're buying different cements from our cement manufacturers, cement suppliers, which have a limestone contribution and less clinker and therefore, less carbon emissions per tonne of cement that we buy. So lots of progress going on within our business on the sustainability agenda. And then finally, perhaps just finish on outlook. So look, we're confident that our market will continue to perform in the second half of this year and going forward. The performance will be slightly weighted towards the first half of the year, as we close Wilnecote later on in the year and obviously lose the revenues from that. And also, we've got some closure costs around the old Desford factory. But nonetheless, we still anticipate our full year results will be slightly ahead of the expectations that we've previously set ourselves. So with that, I'm going to hand over to questions. And I think we'll start with the room, and then we'll move on to the tele.

Priyal here from Jefferies. So just 2 questions for me. The first is just on inventory levels. So obviously, these just keep seeming to go further and further down. I can see why it might be a good problem to have. But is there any feedback from your payment customers in terms of [indiscernible] supply because it does sound like there's very little flex now if they do want to tweak their orders upwards. And then the second question is just with regards to some of your customers. So we obviously get a sense of what's going on with the bigger housebuilders, most of them are listed. But any sort of further color on what's going on with some of the smaller housebuilders? Any signs of stress there at all?

Yes, let's start with inventory. Look, low levels of inventory do impact customer service to some extent. We can't get away from that. But the only way of building inventory is to supply less and build the inventory, which wouldn't be a popular thing, either. So I think it's generally accepted that the inventory levels are low because the market is strong. And I think the feedback we get from our customers is bring on your extra capacity and can we get it faster. And we're investing significantly into our business in 3 of our brick factories today to bring that extra capacity on. So it is a challenge, but it's not one that we can do a lot about other than invest and grow our manufacturing footprint, which we're doing. We're in a great position in that we've got a profitable business that's generating cash and shareholders are supporting us to reinvest so that we can supply our customers with more product. On the housebuilder side, yes, look, I think clearly, the large builders are generally well funded, well capitalized. They've got great land banks. I think there are some of the much smaller builders that are perhaps slightly nervous in terms of do they know what their cost base is going to be and if it's their own money they're pouring into it. I am hearing a little bit around the edges of a degree of caution for some of the very small businesses, perhaps slightly less well funded going into this. But generally, the feedback from our distributors, who would deal with the smaller housebuilders, is strong. I actually spoke to one of our distributors this morning, and he said that he is still very positive and that the housebuilders he's supplying are still building and still doing well. But I think the very small -- the housebuilder that builds 1 or 2 is probably a bit more nervous. The housebuilder that builds a few hundred units a year, I think, is still moving well.

Aynsley Lammin from Investec. I think I've got 3, actually. Just firstly, on the imports, obviously, at a very high level now. I wonder if you could give a bit more color where they're coming from, what's the price premium in the market? And I guess, how easy is it just to displace this with the Desford in terms of that price kind of delta? And then secondly, just on the energy cost. I appreciate it's very difficult to gauge kind of what that -- how much that might be next year. But maybe if you could just give an indication with the 40% you've already covered, what that kind of price increases relative to what you had for the first 40% of this year maybe? And then thirdly, just on the price increase. You obviously had 2 price increases in bricks. Do you need any more for the rest of the year? Have you got any more planned surcharges or anything?

Well, let me pick up imports, and then I'll let Ben to go on energy and price increases and cost increases. I think the imports, they are coming from further afield. We know that. Historically, imports, if you look historically, we've seen bricks imported from Belgium, Netherlands, Northern Germany, and they are -- where they've got clays that make a broader range of sizes, textures, colors, et cetera, that we don't have the clays for in the U.K. And that's probably 150 million -- 100 million, 150 million of imports coming in of the 500 million. But what we've seen is the imports grow just because we haven't got the manufacturing capacity in the U.K. to produce a sort of regular brick that would be used in volume housebuilding. And they are coming from further afield. So we know there are bricks coming from Portugal, for example. And we know that the cost of transportation from Portugal, transportation alone is more than it will cost us to make a brick. So that also hopefully explains the price differential and the cost differential. It's significant. And we're seeing transportation costs going up. And actually, we're seeing energy prices in Europe are probably even more volatile, if that's possible, than they are in the U.K. So when it comes to the price differential, I still think it's a significant premium, which again underpins our ability to parse our -- I'm taking part of Ben's answer there but underpins our ability to [ parse our ] cost inflation.

Yes. I mean on energy costs, we forward buy a portion of our energy and then we kind of layer additional purchases in due course, and then we have the option of buying on the spot market at a time as well. So as we sit here at the moment, I think we know we will have a significant cost in energy increase next year. But trying to quantify it is frankly impossible because you're relying on a forward curve that is up and down literally massively on a daily basis. I'm not sure it's enormously helpful to kind of quote part of our energy cost the next year versus a blended rate for this year where I think it's quite confusing. So I think there is going to be an increase of energy costs. The magnitude of it really depends on what the market does. As I said, we've got pretty good coverage actually until the end of the winter. So it's next summer where we have the biggest open positions. And so that's still a year away. So I think it's not helpful to speculate based on a forward curve today, which was completely different yesterday and will completely different again tomorrow, what our cost is going to be next year. But I think we know there's going to be an increase is all we can say. In terms of pricing and surcharges. So look, we are comfortable with our pricing at the moment. We last increased our brick prices on the 1st of April. Price inflation, cost inflation probably did calm a little bit. So through April through to June, actually, it started to calm down. We weren't seeing any big increases. What we've seen in the last few weeks, as we started to get notifications from suppliers of further increases to come kind of October, September time. We're also seeing increases in energy, although we're well covered. I'm not sure all of our suppliers and people in our supply chain will have the same energy coverage, and energy drives the price of most things. So if energy prices increase, whether it's packaging, whether it's transport, whether it's cement, that will all increase in due course. So I think we are mindful that there might be a further rise of costs in the second half. And then the other piece is labor inflation. So everyone is very focused on our energy costs. At the moment, our labor cost is double our energy cost. And we only need to look at the fact that some people couldn't get it today because the trains are on strike. There's a lot of upward pressure on wages, and it will be interesting to see where that goes for the rest of the second half. So we definitely expect cost increases over the coming months. It's just a case of exactly when that hits and exactly when we need to go to our customers to increase our prices. So we still remain confident that we will be able to recover the rising costs by passing that on to our customers, but it's a little bit early to kind of speculate exactly when we will have to kind of move our prices next. But there is certainly going to be upward pressure as we go through the next 6 months and into next year.

Ami Galla from Citi. Just 2 for me. First one, as we think about the cost inflation that you just touched upon and expectations of further brick price increases next year, I'm wondering what sort of discussions are you -- forward discussions are you having with housebuilders in terms of are they looking at -- is [ the scope ] a substitute? And are they looking at [indiscernible] the current bill to reduce the brick intensity? And the second one is also on energy costs with energy costs as high as they are. I'm guessing the gap between old inefficient kilns and the new ones is widening. What percentage of your capacity can you kind of allude to where there are obvious benefits of further upgrades beyond the ones that are already in the pipeline?

Do I take the first one?

Yes, you do the first one. I'll do the second one.

Look, I think it's too early to know what level of price increase that we'll need next year. But if we sit here today, we expect there to be labor cost inflation in the U.K. economy as we go into next year. I think everyone would expect that. If the cost of living is going up and we're at full employment, that would be a reasonable assumption. And therefore, I think across the economy and our sector, we'll see some cost inflation. I think when it comes down to bricks specifically, the housebuilder still needs to [ clad a ] house with a product, and it needs to be something that's durable, long-lasting that the consumer will like, and that the planner will like. And the alternative is often a painted render. Well, the cost increases for the concrete and the cementitious products and the paints are also fairly significant. So I think in terms of cladding a building or the facade of the house, then we'll see cost increases across the board. So I'm not sure that we'll switch the market off brick. In fact, I don't expect that at all. And brick is still the cheapest way to get a durable, long-lasting, maintenance-free, good-looking facade on a house. And I don't see that changing just because of a little bit of inflation in the U.K. economy.

And just to add to Stephen's point on that cost dynamics. It isn't just bricks. I mean, there's the same cost inflation pressures on blocks, cement, everything else. Every material that the kind of the housebuilders are using is going to face the same challenges. So I don't think it's kind of going to be targeted at brick. I think your question on energy cost is a very good one. And yes, I think there is a big incentive to invest in new capacity, and there are a number of benefits of that. I mean we've talked about this all the way along that we don't really have a cost of sustainability. So being more sustainable isn't going to cost us money because as we invest in new capacity, like we've done at Desford, like we're going to do it the other projects in our pipeline, then you're not only getting kind of the new capacity, but you're basically -- you're using less gas in a moment that says [indiscernible]. You have to buy less carbon credits. I mean, something we've not talked about in too much detail. But our carbon compliance cost has increased about fourfold since 2019. So if you actually become more sustainable, you buy less gas, you have to pay for less carbon, it increases your profit. So yes, I mean, we've got a program, a pipeline of investments over the year, over the next decade where we're going to renew capacity and add additional capacity, and that will improve our efficiency. So our whole strategy is not just adding capacity, but to improve the efficiency of our existing capacity. But it's very hard to give you a specific number of plants or whatever, that will benefit from renewal. The older the factory, as you say, the more benefit you'll get from a new factory, which will be more energy efficient. It will be a more automated, certainly is less labor. So there is big efficiencies to be had, and that's sort of our -- under our sort of strategy or [indiscernible] manufacturing excellence. We want to continue to renew and enhance our manufacturing footprint, and that's key to our strategy.

Alastair, you've been waiting patiently. Well, maybe not patiently.

Alastair Stewart, Progressive Research. A couple of questions. The first one relating back to the first one on inventory levels and customers. Have you -- has there been any meaningful shift in the proportion of volumes in Brick and Block that go direct to the housebuilders, which are the large ones generally versus the merchants that deal with more of the medium and small end of the spectrum? That's the first Question. And second question, echoing Ben's point. Yes, it's pleasing to see the turnaround in Bespoke Products. Looking, where do you see the sort of ideal margin? And how long do you think it will get in that division to get to an idealized margin?

Let me quickly answer the first one because I don't think it has changed massively. I think...

Versus 2019 [indiscernible].

Versus 2019, I don't think it's terribly different. I mean if you go back over the last probably 20 years, you've seen volume housebuilding as a greater proportion of the brick market. But I think in the last few years, I don't think it's changed dramatically.

I mean I think the Bespoke Products business is doing really well. That's driven primarily by the Precast Concrete Flooring business, which is the largest part of that segment. I think we're very happy with the performance in the past. So we've made best part of GBP 5 million in the period before allocation of overheads. Actually, I think that's a decent level of return for that business. We would like to push it further. But I think we've got to be mindful that it's got a pretty low capital employed. And actually, we're pretty happy with it as it is in the flooring side. Yes, I think there's more to do on the more Bespoke side. And as we look to do more facade products and basically leverage the investment we're making in slips as we look to kind of put the kind of the brick facade back on to high-rise buildings and things, I think that's an area of growth. So I think the area of possible growth in progression is more around the wider facade business. I think the flooring business, I think, is doing brilliantly. If we can kind of carry on nudging it forward, great. But based on its asset [ kind of ] base that it employs, I think the current return is a good return for that business.

I think the -- [ it depends ] if you look at it because we tend to, in this environment, look at metrics and percentages of revenue. If you look at it the other way, and you say our flooring business is one large site deploys a couple of hundred people, and it's returned the thick end of [ 4 million quid ] in the first half of this year. Actually, that's pretty healthy. When you start looking at it as a percentage of revenue compared to some of our other products, perhaps the metrics don't look as good. But actually, the performance for that factory site is good.

In terms of the margin on revenue, you've made the big step forward, and it's more incremental 1 or 2 percentage points maybe over time as the other nonflooring products.

Yes. I mean we'll always have a lower margin than the Brick and Block business. It's a different market dynamic. And also on the Precast Concrete Flooring business, a big part of our actual revenue is just buying in polystyrene and then selling it on again as part of the flooring systems. You're never going to get the same margin on that as you do on the manufactured product. So as I say, we want to improve the margin in all of our businesses, and we work extremely hard to do that. But I say I think the levels that we're at are a decent return and anything above that on the flooring side would be a benefit. I think, say, there is more work and there's kind of more to go out in the coming years as we try to develop a facade business.

Christen Hjorth from Numis. I have 3 questions, please. First of all, on Desford and the ramp-up profile. To what extent is that driven by sort of demand? In other words, if the market is like the market is right now, could you get to full capacity utilization quicker? The second one just on margins in the second half, and I think guidance sort of suggests a bit of a step down versus H1. Clearly, there are a few moving parts there around the old Desford plant, et cetera, et cetera. But just if you can help us sort of bridge the move from H1 margins to H2 margins based on guidance? And the third one, just thoughts around share buyback as we move into 2023. Obviously, nothing decided yet, but just the general thought process behind it?

Well, let me start the first one and then I'll pass over to Ben. I think there's often a bit of a misconception that with a factory, you just flick a switch and nip off for a cup of tea and a hobnob and everything comes flying out. It's never quite that simple. We're dealing with the natural raw material. We're running 2 kilns. So we will first -- and the first kiln that we're commissioning in quarter 4 will be the first one. We can't turn the second one on until we've turned the old factory off because the sites only got so much energy supply coming into it. So it will be a case of gradually ramping up the first kiln and then the second kiln, which will take a bit of time. I don't, at the moment, see that it's the market that's preventing us from doing that. Therefore, we will commission our factory as quick as we can. But we've got newer employees coming in. We've got new equipment, new systems. We've got to learn how the clays perform with the different bricks in the new kilns. So it's not an overnight exercise, but it is something that clearly, we have an advantage from doing as fast as we effectively can while still providing a high-quality product to our customer.

Yes. So moving on to the margin point. So Christen, you quite rightly point out that we expect the result to be slightly weighted towards the first half. I think that's more a function of our business and our capacity constraints and the things that we've got going on rather than any interpretation on the market that we see remaining strong. So as you talked about, we've got the old Desford factory is kind of nearing the end of its life, and we are effectively nursing that factory to its kind of expected retirement at the end of the year. We've had to cut production to do that. And say when you get a factory that's going to be pulled down in 5 months' time, then you're not going to spend large amounts of capital to enhance it and to keep it kind of in prime condition. So we've got to make every decision based on a payback in the next few months. So that will just see production fall a little bit. I think we've well publicized the closure of the Wilnecote factory for its refurbishment. So that's closing in September. So that will kind of have an impact of sort of GBP 1.5 million of profit of the second half of the year. Along as I go back to the old Desford, there will be some costs of closing that factory. Not all of the workforce, for example, are going to move across to the new factory. And then just the volume constraints that we've talked about previously. So we are kind of at low levels of inventory with those challenges. I'm not sure we can actually sell quite as much in the second half as we can in the first half. We're talking about small percentages, but there is a slight kind of likely drop off in sales. So yes, that's why we think the second half result will just be slightly lower than the first half. But I say, it's very much a reflection on our capacity constraints. And ultimately, the Desford and Wilnecote investments that we're doing to in the longer term improve our business. There's just a short-term bit of pain associated with that in the second half. But I say there's no reflection on the wider market. And then the final piece was the share buyback and are we likely to do anything further? I mean I think, first of all, we're only just about halfway through the current one. So we don't want to get kind of carried away. That's our priority to finish that. We've talked about our capital pipeline where we want to spend in excess of GBP 200 million after Desford over the next decade. The nature of these capital projects is that they are quite lumpy with kind of the timing of the outflows might not be evenly spaced. Some of those projects are entirely under our control, so we can do them when we want. Other ones, for example, require us to secure raw materials or to find factory sites or whatever, which might not be entirely under our control. So I think that our future kind of approach to shareholder returns will depend on the timing of those projects. If we've got kind of cash that we're not using efficiently, we can look at returns. But if we've got a big capital project going on that needs the money, then we're likely to prioritize that first. So I think over the next decade, there's a good chance of doing further returns, but we're not in a position to kind of speculate as to when that timing might be.

Clyde Lewis at Peel Hunt. I think there were 3, possibly 4. Blocks, I think in the statement you referred to sort of, I think, operational inefficiencies, I think you flagged. And I'm sort of, I suppose, wondering if you could say a little bit more around that. And I suspect there may be some raw material issues there. That was the first one. The second one was on the planning application chart that you put up. When you compare that with the London Brick demand profile, what does the lag look like in terms of sort of months between planning applications and upwards or downward movements in London Brick shipments? The third one was on soft mud imports, or I suppose, imports being largely soft mud focused, I think I'm correct in saying that. But obviously, most of the new capacity coming on in the industry is wire-cut. So sort of is there a difference around the new supply versus the import substitution issues, I suppose? And will the housebuilders shift ultimately from using soft mud to domestically produce wire-cut. I suppose that's the question. And then the last one was really around the gas hedging, that 85% that you've got for the second half. Is -- I mean, again, maybe it's too secret squirrel, if you like, in terms of sort of giving the information away. But are you sort of well covered sort of August, September, October, and then you've got big issues come in November and December? And how does that play around any sort of plant maintenance issues or plans that you've got for the second half of the year?

Okay. Thanks, Clyde. Let me take the first 3 fairly quickly. Look, blocks, there are some operational issues, particularly one of our block plants. Part of it is raw material, part of it is labor availability. But also we are conscious that particularly one of our factories is now getting on a bit. And when we look at our pipeline of investments, we do want to invest in now. We talked a lot about bricks today, but we want to invest in our block business as well. So we do see a need for capital expenditure and further organic investment in our block business. I think the planning applications, I think the lag is reasonably long. I would very much look at that as a leading indicator. We sell London Brick to the merchants, they tend to reorder at the point that they've got no stock in the yard. We don't have an order book like we might for a housebuilder, where if they're building 1,000 houses, and we know which bricks they're going to use, and it might take several years. It is slightly different. So we very much see that as a leading indicator for what's coming. But the lag would be quite long because there will be -- once people have got planning consent, they need to find a builder, et cetera, et cetera. So we don't see that as something that would happen particularly quickly. Soft mud. Look, I think to an extent, the message we're getting off some of our customers is they're buying bricks that they may not choose to buy, but they're buying what's available. And I think where we're investing in Desford, that is very much focused at volume housebuilding, particularly in the Midlands because that's where the factory is. But obviously, it [ can't ] distribute all over the country. So other than the very South, most of the country use wire-cut bricks. So if you look at Midlands and North, there are bricks being used today that perhaps haven't always been used because that's what's available. So that isn't to say there won't be further capacity added in soft mud bricks, I'm sure they will. But right at the moment, we believe that market and we're very confident that market is there for the wire-cut, particularly for the volume housebuilder that might be a little bit more price conscious on the type of bricks that they're buying. And I'll let Ben pick up the last one.

And on the gas hedging, no, I mean, there's no secret squirrel. We're pretty much kind of evenly covered. That 85% is pretty much representative month-on-month for the rest of this year. So we're not really looking to secure any more energy for this year. We never want to go much above 90% anyway because it's quite hard to predict exactly your energy usage. You only need a bit of a plant outage or a change in a shutdown plan or something like that, and you end up with too much energy. And we found out to our expense that that's not a great thing kind of during the pandemic. And as I said, for next year, yes, we've got pretty good coverage until the end of March. We have the lowest level of coverage in the summer, and then we've got decent coverage again next kind of winter 2023. So it's kind of the summer is the kind of the open position for us at the moment. And then beyond that, look, we've made competitive energy price purchases in the last 6 months or so, for '24, '25 and even into '26, we've been forward buying energy. Just the market for 2023 over the last year and even more so now has been difficult. So trying to find value in 2023 has been a challenge. There is value or there was until fairly recently, value on the forward curves further out after '23.

The risk premiums are very, very high. So you've got to balance how much risk premium are you willing [ this payer ] to pay.

[ Stephen Rawlinson ] from Applied Value. Three, if you don't mind, seems to be the standard level. Just 3 things. Firstly, you make a comment in the text about extending your own fleet, not only to your deliveries but also to inbound raw materials. Could you just talk us through the trade-offs that the Board considers in and around that? Because in a business that's already highly operationally geared, clearly, having your own fleet only adds to that gearing. So just sort of help me out with a thought process on that one. Secondly, with regard, again, possibly to fleet and the HGV crisis seems to -- driver crisis seems to have gone away. But a number of sector companies have talked about a supplementary payment to some of the lowest paid people in their organizations in the next 6 months. Is that something that is being considered by your organization? And thirdly, in terms of the slips. You talked in terms of facades, and I was a little curious as to where the thought process is that you might go into the manufacturer or brick-faced facades at some point. Is that part of the thinking? Or is that such a long way off now with maybe it's tomorrow's issue, not today's?

Okay. Let's start with the fleet. We deliver probably about 60% of our total output on our own fleet. So it's not all on our own fleet. It would be slightly higher for Brick and Block. But nonetheless, there is some buffer there. In terms of inbound raw materials, it's about finding haulage and it's about -- we need something that's very regular. So it's a bit of a milk round. You're literally sending a truck, maybe it's doing 4 trips a day between raw material source or more. It might be raw material source in our plant, and you just want that consistency. And at the moment, it's been challenging finding people to do it and certainly finding people to do it at an acceptable cost. And we have the operators' licenses, we operate a fleet. We know how to do it. So to add a handful of vehicles and trailers onto our existing fleet to do inbound. It just makes logical sense. We're not gearing ourselves up to the point of causing ourselves a problem going forward because there is still plenty of both inbound and outbound that's done externally.

So just to add to that, it's [ very ] resilient. So if for example, we certainly have a whole year [ let us down ]. So with the [indiscernible] factories, we're taking materials from 7 different locations. If we've suddenly got to move to a different location trying to fight haulage externally can be challenging. If we've got our own vehicles that we can respond as a surge, it gives us greater resilience. So this is not a major investment. We've already got 180 HGVs. We often describe ourselves as a logistics business with a brick maker on the side. Having different trailers that you can put on the tractor units we've already got to give ourselves resilience and make sure we can keep our factories open, is a pretty small investment but kind of can have a big return and it keeps the factory open. So yes, it's not a major thing, and it's certainly not going to massively change our operational gearing.

So you talked about the HGV crisis. Yes, look, we -- last year, we gave an industry-leading pay award to all of our employees. And we also looked at the terms and conditions that our 200-plus HGV drivers work on to make that more attractive. We are conscious, though, I think that as we go into quarter 4 and household energy prices go up dramatically, the lower paid will suffer the brunt of those extra costs. And as a responsible employer, yes, we need to look at it. It's too early to say exactly what we're going to do, but it's on our radar or something that we need to think about. We need to make sure that people can come do a good day's work and can still afford to feed their family and heat their homes. I think that's important. And then facades. Well, we are making some brick-faced facades. So there's nothing new in that. We do some. We've done a couple of large jobs actually for the Ministry of Justice on a couple of prison projects, whereas I don't want to roll out my old joke about concrete walls in prisons, but there are plenty of them. And the external walls are brick faced and already factory made, but we think that might be an area that we can grow. And also with the thin brick or the brick slip systems and different ways of attaching brick slips on to buildings, particularly high-rise buildings to create a secure fire-safe facade, I think is an area that -- well, it is an area that we're working on, and we're looking at different ways of how can we attach our product to the outside of buildings. Should we -- if that's the room done, should we move to questions...

No, sir, there are no questions coming [indiscernible].

We done? Okay. Look, thanks very much, and thanks very much for everyone that's dialed in to listen. Appreciate it.

Thank you, everyone. Cheers.