Hexagon Composites ASA (HEX) Earnings Call Transcript & Summary

Good morning, and welcome to Hexagon Composites Q1 2023 Results Presentation. My name is Karen Romer, I'm the SVP of Communications. And joining me here on the stage today will be Jon Erik Engeset, our CEO; and David Bandele, our CFO. This morning, we will start out by bringing you the highlights as well as a business update, followed by financials and outlook and then also a Q&A. And for the Q&A, those of you that are in our digital audience can please go ahead and fill in your questions as the presentation is being held in the field on your screen. And then we also will be taking questions from the room. So I think without further ado, Jon Erik?

Good morning. Thank you for joining us here today. We have now finalized our 2022 carbon footprint accounts and I'm proud to report that our solutions in the prior year enabled the avoidance of 1.35 million tons of CO2 equivalents. That translates into roughly 300,000 cars on the roads for 1 year, so significant contribution. To accomplish that, we, in our own supply chain, consumed 320,000 tons of CO2. The major portion of that is from our suppliers. For more information, please go to our sustainability report, which you will find on our web page. Looking at the numbers. In the first quarter of '23, our revenues amounted to NOK 1,130 million, up from NOK 913 million in the same quarter last year. Our EBITDA, however, was at the same level, approximately NOK 83 million versus NOK 84 million in the prior year. On the Hexagon Purus side, they continue on their growth trajectory, NOK 244 million in revenue in the quarter, up from NOK 159 million in the same quarter last year. EBITDA at minus NOK 112 million, in line with expectations, compared with minus NOK 93 million in the prior year. Behind these numbers is a solid top line, more or less across the board with some softness in the quarter for the heavy-duty, especially the long-haul truck segment. And in that Hexagon Agility business, the margins have not yet recovered to satisfactory levels, and we will revert to that. However, order books look healthy and the contribution margins are expected to improve. And especially the Mobile Pipeline business unit has very strong markets and a full order book well into 2024. We also recently launched the smart cylinder pilot project on the Hexagon Ragasco side with a pilot to AGA Linde here in Norway. And last but not least, Hexagon Purus in the quarter funded up with NOK 1.3 billion with Mitsui as anchor investor. And that enabled the targeted uplisting to the main market of the Oslo Stock Exchange. And that was an occasion for celebration. So this took place in the morning on the 30th of March this year, a happy day. But many other highlights also for Hexagon Purus. So most notably, we finally signed the final agreement with Hino, delivering battery packs and assembly services and that contract is worth in the range of NOK 20 billion potentially. To enable that contract and also to play in the market generally for battery electric heavy-duty vehicles, we depend on battery cell supplies. And as you who follow us closely know, we had -- we lost some contracts in '21 due to a lack of secure supplies. So a very important milestone for us to get a long-term agreement in place with Panasonic, securing then stable and predictable supplies of that very important component. And then we have 5 expansion programs ongoing, 2 of which have recently been completed, official opening in British Columbia, Kelowna, Canada of the tech center and battery line there and also in Westminster, Maryland, cylinder and systems facility. So 2 of 5 have now been completed and the other projects are on track. On the Hexagon Agility side of the business, we have recently executed some important management changes. Hans Peter Havdal, who joined us earlier this year as Group Chief Operating Officer has taken on the dual role of CEO for Hexagon Agility. And his broad background from the automotive industry is particularly relevant for the phase that we are entering now: short term to restore margins and medium term to leverage the significant growth opportunities for this business area. And he has a strong team around him, mentioned here, Andrew Griffiths who will continue in his role as CFO and Executive Vice President; and then also Eric Bippus, who many of you have met, has been promoted to Executive Vice President and had his scope of responsibility in the company expanded. We remain very dependent on regulatory support. Fortunately, that support is happening, as we speak, in all relevant geographies. And just a short update on a couple of changes there. In the EU, it was recently adopted a regulation on CO2 emissions for light-duty vehicles, which will require the suppliers to assess the full life cycle effects of different technologies. This is very important because this is a step in changing from measuring what comes out of the exhaust pipe, what we call tailpipe emissions, to a more holistic well-to-wheel approach, and we think that will pave the way for regulations that will also support renewable natural gas in Europe. And very important for us is that when this regulation has been passed for light-duty, it is highly likely that similar regulations will also come into force on the heavier-duty vehicle classes. On the other side of the Atlantic in California, the Advanced Clean Fleet Act came into force recently, that supplements the Advanced Clean Truck regulation, which has already been in force for some time. This is also a very important development because so far, the focus has been on the supply side, the OEMs, while the Advanced Clean Fleet also then imposes demands on the fleets and the fleet owners to make use of this technology. So we deem both of these regulations as very supportive. And California being maybe the most progressive regions of all when it comes to zero emission and decarbonization of transportation, recently hosted the annual Advanced Clean Transportation Expo, and we had a big delegation there, really good buzz on the floor. And we were joined by many of our customers, suppliers and competitors. And a couple of main takeaways there. First of all, technology-wise, there is lot of attention to electric configurations. But we see a shift away from only battery electric, which is a more mature technology, and especially in the heavier vehicle classes now a lot of focus and many examples of hydrogen electric configurations on display. And also feedback from the main fleets that we had meetings with was that they don't see that there is a realistic opportunity to adopt in big scale in the short to medium term, meaning in the next 10 years, maybe more, of battery alone. And they have the same views as us that the only alternative that can make a significant impact in that time frame is renewable natural gas. So we, as a group, are agnostic. We are playing in all these technology areas. But we see the strongest logic in order to drive down CO2 consumption by applying renewable natural gas. Cummins were also present, displaying their new 15-liter engine to -- and they confirmed that this will be launched in 2024 and the general manager there, he made a presentation. He was also at our stand and he expressed publicly an ambition to reach more than 15% of the heavy-duty market in the next few years. And that represents a 7 to 8x higher market than we currently enjoy in North America. And on that note, I welcome David to the stage. Thank you.

Thanks, Jon Erik. Good morning, everybody, joining us also on the webcast and in the audience. Good to see you all again. That was 2024, that inflection point on the 15-liter engine, a lot of miles to go in 2023. First, let's go for the highlights of Q1 '23. So as Jon Erik covered, NOK 1.13 billion in revenues for 24% growth. There were considerable currency effects, U.S. dollar particularly strong against the Norwegian krone. So even stripping out those effects of currency, we are still 12% and a healthy start to the year in growth. Strong Mobile Pipeline, and I would say, solid Hexagon Ragasco volumes played a very strong part in the quarter. And as Jon Erik touched on, we did have an expected slower start then in heavy-duty truck. And then moving over to the right, EBITDA was NOK 83 million in line with Q1 last year. Margin percentages still remain not so relevant to compare, given the high cost base inflation and pricing inflation that we continue to see. But looking at those profit margins, absolute terms, the margin development then on heavy-duty volumes, we did turn a milestone. So in the automotive business, we are seeing the pricing effects actually mitigate the cost effects. But unfortunately, the volumes are lower, so you're not seeing that through the margin. Being as the biggest division has the heaviest weight then on the margin currently. But very good news aside from there. Mobile Pipeline margins have increased quarter-over-quarter. It's what we expected to see. Ragasco has had very positive efficiencies and some favorable currency effects also on the EBITDA level, something we don't see in the American business because revenue and cost is in the same currency for Agility. And then finally, a positive contribution from Digital Wave to wrap up that quarter. But let's dig into Agility and then really see the picture there. So we posted NOK 898 million in revenue for 23% growth, as I said, strong Mobile Pipeline underpinning that. We also had very strong medium-duty volumes somewhat offsetting the lower long-haul heavy-duty truck. Unfortunately, on the medium-duty, we have quite limited content, whereas we have a lot of content in our heavy-duty applications and hence, that produces also a negative mix impact in the quarter. And when we go over to the EBITDA, we posted NOK 34 million, so a drop of NOK 18 million year-over-year for that quarter. And again, some of the key elements of understanding that margin development, #1, as we've stated before, the carbon fiber prices, which is a key bill of material for us, remains high year-over-year as it will do through '23 versus '22. Component costs still high. So we expect to see some of the -- basically, the raw materials picture is getting better, but they won't pass through probably till the end of quarter 2 as we stated last time. So in Q1, component costs are still high. And then again, we've had this delay or slower volumes as well coming through. And with slower volumes then you delay the effects of this higher pricing even further as we wind out of backlog, and we have significant backlog still and growing as we come into Q2. And then finally, I'd just like to say, the stronger margins in Mobile Pipeline are also coupled with stronger margins in our European operations, something that has been quite different to last year. So improvements beyond heavy-duty truck. On Ragasco, we posted NOK 188 million in revenue, so for 16% growth, and that's the back of typically a seasonally strong European sales. And I'm going to go to the EBITDA level posting a monster NOK 47 million for Q1 and up NOK 14 million same quarter last year. And digging into those healthy margins, again, we had a quite sizable positive currency effects that have helped and the pricing, of course, now has caught up with the cost base inflation fully. On top of that, Ragasco had numerous production records in the quarter, so a lot of volume efficiency, things going well there. On Digital Wave then, yes, a very good start to the year, obviously, tripling revenues, NOK 45 million posted for the quarter. And as we look at the EBITDA side, also, a NOK 6 million improvement year-over-year, so positive profitable revenue growth. We have this healthy mix of product businesses, our Ultrasonic Examination machine sales, but we also have service business in the Modal Acoustic Emission. So that's the inspection and requalification. So that MAE technology, that capability remains core to our product differentiation strategies, and that's the whole of Hexagon, so including Hexagon Purus and also the requalification activities we can do using MAE, that's actually central to our certified preowned programs, so starting with Mobile Pipeline trailers, but also available to repurposing automotive applications. And finally, Purus had a good start to the year. They published their results a couple of days ago, 53% top line growth for the quarter at NOK 244 million. Chart in the middle is very impressive. So the last 12 months revenue, up 70% year-over-year and also passing the NOK 1 billion mark, so kudos to Hexagon Purus. And you can see that their order backlog is extremely strong. And as these long-term agreements actually move into serial production, then you will get to see a lot more revenue generation at those points. So the next couple of years will be very exciting for Hexagon Purus. And as usual, we've talked about the left-hand side, the middle. When we put these together on a group basis, we did NOK 1.261 billion in revenues and minus NOK 29 million in EBITDA for the group. On the leverage side, we focus on Hexagon, excluding Purus. We closed with a pro forma net interest-bearing debt of about NOK 1.3 billion. And we also have available liquidity then of NOK 599 million at the end of Q1. So just pause for the outlook. So on 2023, we're not giving definitive guidance this quarter either, but it's basically the same as one quarter before. The one difference is, as we warned, we do still see intermittent supply chain delays and disturbances. And we've experienced that in Q2. So we will have some impact in Q2, but we do expect those to ease over the year and hopefully catch up Q3 and Q4. So it's still a lot of managing to be done. But overall, we still expect healthy growth across most of those segments. And on the heavy-duty truck volumes, we're still watching back end of, you should say, Q4, back end of the year just to ensure that volumes are what we expect to be. And then on the EBITDA side then, so long as there's no major disruptions to volume, then we should see the gradual improvement and probably a little bit -- as I mentioned now, are more back-end loaded. Otherwise, key takeaways for the quarter, solid top line momentum. We will see the gradual margin improvement in '23. Hexagon Purus, successfully funded and listed on the OSE Stock Exchange. That's a significant milestone for both companies. And then our 2025 revenue targets we hold the same, Hexagon, excluding Purus, of NOK 6 billion, very achievable and particularly with the game-changing engine being launched in 2024. And for Purus, NOK 4 billion to NOK 5 billion looks quite secure, given the long-term agreement pipeline that you have seen. And on that note, I'll ask Jon Erik and Karen to come back.

Okay. As I mentioned earlier, we are ready to take some questions from the audience. Yes, and we have one right up here front. And those of you in the digital audience, please feel free to fill in the form on your screen.

Hans-Erik Jacobsen, Nordea. It seems somewhat odd that you continue to experience delays in the U.S. Can you dig a little bit deeper into why this is continuing to happen?

You mean specifically delays in the supply chain?

Yes.

So I think this is an industry-wide problem. You see it from the automotive OEMs also that they report continuous -- these supply chain disruptions. And it's a very sophisticated supply chain. We have, as most players tuned in our production system to a major extent on just-in-time deliveries and even small components that we never cared about in the past have now become an issue because of domino effects far back in the chain. Chemical components in one case, lacking, which has then affected the sub-supplier of ours, just as an example. And those ripple effects, they also then affect us. That said, it has improved greatly, but we still continue to struggle with some specific issues. And we expect that will also be the situation in Q2 to some extent. But let me emphasize that there are major improvements compared to what we experienced last year. But this is not unique for Hexagon. It's something we hear across the space.

And then on the new Cummins engine, it seems that it has been pushed a little bit into '24. When can we expect to see increased sales from Hexagon? In '25 and onwards? Or do you think it will have an effect already next year?

We think it will have an effect. So I don't think they are behind schedule. So they are homologating this engine now in the U.S. Actually, the engine has been used in China, not the exact same version, but basically the same block with very good results from what we understand. So they seem very confident that it will pass homologation. And then it will be brought to the market in the beginning of next year. So we'll see sales to customers taking this engine in '24, but the big impact will be from '25 and onwards.

And then on the margin side, in relation to carbon fiber costs and other components, you're quite confident that you will see increased selling prices and enhanced margins during the course of the year from what you said?

Yes. And maybe you can...

Yes, absolutely. So we actually are seeing the pricing effects. You're not seeing it because of the volume and mix in Q1 on the automotive side. Mobile Pipeline, Ragasco, all of those are under control.

Just one additional comment to that. We maintain the view that our markets will be tight on supply when the new engine will be launched. So we, therefore, also have confidence that, on the market side, it should be definitely possible to achieve the prices necessary. That said, we will work a lot on our internal supply chain, take out efficiency gains wherever we can. And the sum of all these effects will bring us to the targeted levels.

Excellent. Do we have another question from the room? I do have one here online. Can you give some insight into how the newer Agility orders are priced and -- I guess, for you, David, and how this impact margin and percentage point -- how this impacts margin and percentage points? And timing-wise, when will the low-margin orders signed in '21 and '22 move out of the quarterly updates?