H+H International A/S (HH) Earnings Call Transcript & Summary

Welcome to the H+H International A/S interim financial report for H1 2021. [Operator Instructions] Speakers, please begin.

Good morning, and welcome to H+H's Conference Call for the First Half of 2021. My name is Andreas Holkjær, Investor Relations and Treasury Manager. Joining me on this morning's call is our CEO, Michael T. Andersen; and our CFO, Peter Klovgaard-Jørgensen. Yesterday afternoon, the interim financial report and supporting documents were published and uploaded to our Investor relations website. The presentation slides for this morning's conference call were also made available on our Investor relations website prior to the call. During today's call, management will present the interim financial report, after which there will be a Q&A session. Please note that this conference call is being recorded and will be made available on our Investor relations website after the call. Before handing over the call to Michael and Peter, I would like to direct your attention to the disclaimer on Page 2. During this call, the Executive Board may make certain forward-looking statements regarding various matters related to our business and company that are not historical facts. Such statements are based upon the current expectations and assumptions and are therefore subject to certain risks and uncertainties. Many factors could cause actual results to differ materially. For further information about the risk factors, please see the annual report for 2020. And with that, I will now turn the call over to Michael.

Thank you, Andreas. And good morning to everyone participating in this call. As Andreas mentioned, we published our H1 2021 interim financial report yesterday afternoon, and the report showed strong organic growth and historical high earnings. The report also included an upgrade to our financial expectations for 2021, and Peter will provide some more color to that later in the presentation. Today, I will briefly go over a few highlights from the quarter before providing an update on our key markets. Peter will then provide additional color on the financial performance for the quarter and the half year period as well as on our financial expectations for the full year 2021, but first, please turn to Page 3. Following the demand slowdown in the first quarter of the year caused by harsh winter weather in especially Germany and Poland, the markets have quickly recovered, and the second quarter showed very solid demand across the board. This led to strong organic growth and earnings for both the quarter and the half year period. Organic growth was 39% in second quarter 2021 mainly due to very high organic growth in the U.K. following the national lockdown in early 2020 as well as continued price increase in Continental Western Europe and higher CSU volumes in Poland. EBITDA amounted to DKK 172 million, corresponding to a margin of 21%. And EBIT was DKK 125 million, corresponding to a margin of 15%. Return on invested capital remained high at 21% compared to 18% in second quarter 2020 and 16% in second quarter 2019. Free cash flow was also very strong and amounted to DKK 172 million mainly as a result of the high earnings in the quarter. The solid free cash flow drove a reduction in our debt, causing financing gearing to decline to 0.3x EBITDA, well below our long-term target of 1 to 2x EBITDA. Next, I will go over our core markets, starting with the Central Western Europe region on Page 4. Generally and as previously communicated, the European housing market is still expected to continue growing. This is supported by continued structural undersupply of housing, demographic growth and urbanization. As mentioned in our Q1 2021 interim financial report, the first 2 months of 2021 was adversely impacted by harsh winter weather, especially in Germany and Poland. During second quarter 2021, as the weather conditions improved, demand picked up significantly, and all of H+H's markets are showing positive signs. In Germany, a significant lack of housing space, especially in the larger cities, from a growing number of smaller households provides a solid demand outlook for both AAC and CSU. However, because CSU demand is currently unbalanced, as demand in the northeastern part of Germany is considerably higher than in the southeastern part, H+H has had to ship some products over longer distances to service the high demand. This has caused increased transport costs in Germany, adversely impacting margins. Further and as previously communicated, a significant number of permitted buildings are awaiting realization, causing order backlogs among housebuilders to grow considerably over the recent years. It is estimated that the value of the current order backlog equals around 9 months of construction activity in Germany. As the country is facing a continued undersupply of housing, the German government is seeking to cope with these challenges through stimuli programs providing incentives for homeowners and targeting availability and development of land. However, the effect of these programs remains insufficient to convince builders to invest in overcoming the labor challenges. Growth in the German construction industry is therefore expected to remain restrained until a viable solution is found. In the Nordic region, activity is generally high, with positive demand outlooks for both Denmark and Sweden. However, price increases and longer lead time on building materials cause some bottlenecks for housebuilders. In Denmark, increasing demand for housing and holiday homes has led to further growth, especially in the segment for family housing. According to third-party data providers, a total of 3,400 building plots were sold in the first half of 2021. This is more than the number of building plots sold in all of 2019, and is -- it represents a 79% increase relative to the first half of 2020. Finally, the outlook for the Swiss and Benelux markets remains positive, with underlying demand showing steadily increasing trends. Turning now to the U.K. market on Page 5. The British government remains committed to increasing the housing output to 300,000 dwellings annually, but the exact road map towards this target remains unclear. Several government stimuli programs are in place, seeking to cope with the challenge of the structural undersupply of housing. These include the stamp duty holiday, which increases the thresholds for stamp duty and further supports the housing market until its gradual expiry towards September 2021. Further, the new Help to Buy program has been well received by housebuilders, and strong forward sales have been reported in recent trading updates. Based on the forward sales, the current outlook suggests high activity levels in the U.K. even beyond the expiry of the stamp duty holiday program. The private housing market is also showing high activity levels driven by general shortage of housing; as well as relocations as a result of the COVID-19 pandemic, where buyers are increasingly willing to move to larger properties outside the big cities. In combination, these trends have accelerated the recovery of the U.K. housing market, and H+H is producing at near-full capacity to service its customers. Before turning the call over to Peter, please turn to Page 6 for an update on the Polish market. Here several developers have increased capacity at building sites to compensate for the slow winter months, and the overall market situation is positive. According to third-party data providers, the number of awarded permits increased by 40% in the first half of 2021 relative to the first half of 2020. This is driven by increases in the number of permits for both developers and individual investors, thus covering building permits for both of H+H's product categories. Historically, between 85% and 90% of awarded building permits have turned into actual construction work, providing a good medium-term demand outlook for the industry. The Polish CSU market remains characterized by competition and price pressure due to the addition of capacity in 2020. However, due to the increasing demand, the situation appears to have stabilized. And price increases have been observed in certain parts of the country. The competitive environment in the AAC market is relatively more moderate than that of the CSU market. Here pricing is following a positive trend, as several of H+H's competitors are also increasing their prices as a response to the overall positive development in demand. To sum up. We are seeing solid demand across all markets, and the current strong trading conditions are expected to continue in the second half of the year. Coupled with the stabilization of the competitive situation in the Polish CSU market and continued benefit from consolidating efforts in Germany, we remain confident around the commercial prospects for the second half of the year. However, we continue to keep a watchful eye on the shorter-term effects from the present labor shortages in Germany, the general cost inflation, the competitive environment in the Polish CSU market and suboptimal transport and logistics in the U.K. This concludes my prepared remarks. And I'll now turn the call over to Peter for a review of our financial performance in the second quarter and the first half of 2021.

Thank you, Michael. And welcome from me as well. Please allow me to take you through the financials for the quarter and the half year period, starting with a summary of our financials on Page 7. As Michael mentioned, after the demand slowdown in the first quarter, the markets quickly regained their momentum as the weather improved. And demand is generally strong. These solid market fundamentals drove the strongest-ever Q2 and first half year EBIT for H+H, underpinning a high cash flow generation. Further, through our ability to manage cost increases from the inflationary pressure and higher transport costs in the second quarter, H+H has continued to deliver solid earnings ratios. I will get back to these in a minute, but first let's look at the revenue in the quarter on Page 8. Total revenue increased by 40% to DKK 836 million. Organic growth was 39%, mainly driven by very high organic growth in the U.K. due to the national lockdown measures introduced in 2020. Further impacting organic growth for the quarter was continued price increases in the Central Western Europe region from our ongoing consolidation efforts as well as increased volumes in the Polish CSU business. In the CWE region, revenue increased by 15% to DKK 403 million compared to DKK 351 million in Q2 2020. Organic growth in the CWE region was 13%, driven by both higher sales volumes and higher prices. In the U.K., revenue increased significantly, as the U.K. business was closed for almost the entire second quarter of 2020 due to the national lockdown following the outbreak of the COVID-19 pandemic. Compared to Q2 '19 as an alternative benchmark, revenue in the U.K. increased by 5%. In Poland, revenue amounted to DKK 185 million in Q2 2021, which was on par with Q2 2020. Organic growth in the region was 3%, mainly driven by higher sales volumes in the CSU business. So an impressive consolidated organic growth of 39% for Q2. Excluding U.K., organic growth was 10%, which we are also quite pleased with. Moving now to Page 9 for a review of our quarterly earnings. As mentioned, as previously communicated, H+H faces inflationary pressure from increasing costs of CO2 allowances for cement-based products as well as increasing input costs related to [ especially ] pallets and [ packaging foil ]. Further, due to the very high demand in the U.K. and the unbalanced demand in Germany, H+H has had to ship some products from suboptimal locations to service its customers, which has led to higher transport costs. However, through continuous optimization of its sourcing and production lines as well as through price increases, H+H has managed these expected cost increase as well. And the efforts are reflected in our quarterly earnings. Gross profit was DKK 251 million in Q2 2021 compared to DKK 177 million in Q2 2020. This corresponds to a gross margin of 30%, which at -- is at the same level as last year but slightly lower than 2019. This is mainly due to country mix and pricing pressure on the Polish CSU business; as well as the divestment of the high-margin Russian business, which was sold in 2019 to lower risk and increase focus on our core markets. EBITDA amounted to DKK 172 million compared to DKK 104 million in Q2 2020 and DKK 156 million in Q2 2019, corresponding to an EBITDA margin of 21%, which represents an increase of 4 percentage points and 1 percentage point compared to Q2 2020 and Q2 2019, respectively. The increase relative to Q2 2019 is a direct result of our continued cost focus and optimization of SG&A costs. Further, EBIT amounted to DKK 125 million, corresponding to an EBIT margin of 15%, compared to EBIT of DKK 57 million in Q2 2020 and DKK 114 million in Q2 2019, which corresponded to an EBIT margin of 10% and 15%, respectively. We are obviously very pleased with these strong earnings ratios, which serve as a testament to our ability to manage the inflationary pressure and increased transport costs faced in the second quarter. On Page 10, you will see the development in our net debt for the first half of 2021. At the end of Q2 2021, net debt totaled DKK 149 million compared to DKK 230 million at the end of 2020, of which DKK 110 million related to leasing liabilities. The decline since the beginning of the year is mainly a result of strong free cash flow generation, with free cash flow for the first months -- first 6 months amounting to DKK 140 million. The decline was partly offset by the purchase of treasury shares in connection with the ongoing share buyback program. At the end of the quarter, financial gearing was 0.3x EBITDA, which remains well below our long-term target of 1 to 2x EBITDA. Now please turn to Page 11 for a brief update on the ongoing share buyback program announced earlier this year. As of 11th of August 2021, a total of 272,000 shares, equal to approximately 1.5% of the share capital, has been bought back under the program for a total purchase price of DKK 49 million. H+H would like to reemphasize that it remains our key strategic focus to pursue acquisitive growth. However, given the cash generation in 2020 and the headroom to the long-term target for financial gearing and the group's growing cash position, there was an opportunity to return part of that liquidity to our shareholders. As previously communicated, the share buyback program is carried out with the objective of adjusting the capital structure of H+H. And it is expected that the shares bought back will be proposed canceled at the Annual General Meeting in 2022. Now before handing the call back to Michael for closing remarks, please turn to Page 12 for an update on our full year 2021 financial expectations. Due to the strong market fundamentals and the momentum in the current trading condition, H+H adjusts its financial expectations for the full year 2021. Organic growth is now expected to be in the range of 8% to 11% compared to the previous guidance of 2% to 7%. Further, EBIT is now expected to be in the range of DKK 360 million to DKK 400 million compared to the previous guidance of DKK 330 million to DKK 390 million. The adjusted guidance is based on the expectation that the COVID-19 pandemic will not have any material impact on construction activity levels or supply chains. Further, we expect foreign exchange rates, primarily the British pound, the euro and the Polish zloty, to remain at mid-August levels. Finally, we expect energy and raw material prices to be stable for the remainder of the year. This concludes my prepared remarks, and I will now turn the call back to Michael for closing statements.

Thank you, Peter. Please turn to Page 13. To sum up: We are seeing solid demand across all markets, which in Q2 has led to strong organic growth and earnings which were notably ahead of 2019 levels. These trading conditions are expected to continue in the second half of the year with continued high demand for H+H products. In particular, the demand in Poland is expected to exceed our previous assumptions. Coupled with the stabilization of the competitive situation in the Polish CSU market and the continued benefits from the consolidation efforts in the German white stone market, this has led to the upgrade of our full year financial outlook. We do, however, continue to keep a watchful eye on the shorter-term effects from the present cost inflation, the competitive environment in the Polish CSU market and suboptimal transport and logistics in the U.K. and Germany. This concludes my prepared remarks, and we are now ready to take questions. Operator, please go ahead.

[Operator Instructions] Our first question is from Laurits Kjaergaard of ABG.

Congratulations on your good results. My question is in terms of the implied guidance for the second half of 2021, where you -- if I type in your numbers correctly, you seem to guide a very strong second half, also relatively to the strong 2019 level that you delivered. Is it correct to assume that the majority of this is this tailwind on your gross margin? Or is there anything in your EBITDA lines that we should be aware of?

I can start off on that. In general, you are right. We have a good momentum in our markets, and we do see strong demand continuing also for the second half. As mentioned in particular, Poland is showing an -- improved expectations compared to previous, and that has caused us to increase our organic growth guidance. In terms of earnings for the second half, it is assumed to be in line with the previous 2 years in the second half. And I think, as mentioned, we are of course watchful for potential risks in that picture, represented in our lower range of the guidance, which would be potential additional impacts from transport and logistics input costs and potential competition in the Polish CSU market.

That's very clear. And second questions: And when we look at the U.K. market, you mention that you are around full capacity. And I would like to say, first of all, that I guess the expansion of the Borough Green factory a few years ago was extremely well timed. I guess my question is, is there room for further organic expansion of capacity in the U.K.? And can you please also give a status on sort of your M&A activity? Is there any delta, any movements since we spoke last time?

Yes. Thank you for the question. I think that, when we talk about the U.K. for the time being, the growth that we can get is still possible, but we are not going to be in a situation where we can offer in the short term any step change in capacity. So we are more relying on our continued effort to increase output from the plants. It is absolutely true, your remark on Borough Green. And we must also say that -- when we look at what we expected to get out of Borough Green when we made this investment, that we have exceeded that quite considerably. And then that is, of course, also showing in the numbers, where we are now trading at record-high earning levels in the U.K. And therefore, the payback on the Borough Green has been very good; and say, [ has ] a very good punch into the market, which not always is the case. We count ourselves fortunate that, that happened at this time, that we hit it right as the market started to significantly pick up. In terms of M&A, of course, our focus is still on the German market. And we are, I will say, quite active pursuing M&A. And I will say that we are also making progress, so we are still determined and optimistic that we will be able to do further acquisitions in Germany in the coming time.

Just a quick follow-up on the U.K., that you indicate that there is not really any motivation to increase capacity in sort of the short term given the very high volumes that we're seeing at the moment. Is that correctly understood? Or is there a potential for you guys to operate at a -- or increase your capacity? Because I guess the trend is that backlog is looking strong. Permits is looking strong, so perhaps even you should have quite a high confidence within the next couple of years, I would imagine.

Yes. And of course, we are reviewing all options in the midterm. I will say that we are planning to increase our capacity. We are planning to get more output, but it has to come from efficiency improvements in the plants. That would mean pointed investments and continuous improvement will increase our output going forward, but in order for us to make a step change in capacity, we need to make larger investments. And that will take longer time.

Our next question is from Kristian Johansen of Danske Bank.

A couple of questions from me maybe just to pick up on where we left on capacity utilization but in the broader scope of the entire group. So firstly, if you can comment on what your capacity utilization was in the first half of the year and sort of what you expect for the full year, obviously leading to the actual question in terms of, if this strong demand outlook does continue, I mean, how much more volume can you actually squeeze out next year.