hGears AG (HGEA) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen. Welcome to the First Half Results 2024 Conference Call. I'm the Chorus Call conference operator. [Operator Instructions] and the conference is being recorded. [Operator Instructions] At this time, it's my pleasure to hand over to Mr. Christian Weiz, Head of Investor Relations. Please go ahead, sir.

Yes. Good morning, everybody, and a warm welcome to hGears' First Half 2024 Results Conference Call. Thank you for joining us this morning. I am Christian Weiz, Head of Investor Relations. With me on the call are today Sven Arend, our CEO; and Daniel Basok, our CFO. They will present our first half numbers and be available for the Q&A session after the presentation. If you have not yet received our relevant earnings documents, you can find them on the Investor Relations section of the website. Before we begin the presentation, I would like to draw your attention to the disclaimer on Slide 2, which sets out a legal framework under which this presentation must be considered and which I assume you have read. And now, I'd like to hand over the call to Sven Arend, our CEO.

Thank you, Christian. Good morning, everyone. Thank you for joining us today for this first half 2024 earnings call. The overall market conditions have not changed much since our last earnings call. This means that we have continued to witness slow business development and this in line with what we expected and what we guided for. We have seen demand for electric vehicles cooling lately as the enthusiasm for the transition towards the electrification of mobility seems to be taking a breeder. However, despite that and from half year perspective, e-Mobility has again proven resilience with sales remaining more or less at the previous year's half year level. Meanwhile, e-Tools declined year-over-year in the first half of 2024, but the business area witnessed another sequential improvement in the second quarter, which may be read as signs of stabilization. Finally, on the destocking trend in the e-Bike segment was still ongoing, though we do not expect any further decline, but it is difficult to say when the expected upturn will happen. We have continued to adapt the organization and structures to current market conditions, while also reducing cost. Daniel will present the numbers for the first half of the year, which demonstrate our success in what we do. However, we cannot fully offset the lack of volumes leading to a negative operational leverage and inefficiencies related to: stop-and-start costs continuing to weigh on our results. Throughout reducing costs, we are also shaping the company to be agile, efficient and well positioned to benefit from the recovery in the end markets as soon as it materializes. In the meantime, cash preservation is the name of the game. Our robust balance sheet reflects our disciplined approach and our cash position provides us with the necessary financial maneuverability in the current economic conditions besides the fact that having a decent cash position is simply reassuring. Finally, and to sum it up, we confirm our 2024 midterm guidance. Before handing over to Daniel for financials, let me share a few comments on the quarterly development of our business areas, as shown on Slide 5. The chart shows again a sequential increase of e-Tools in the second quarter. However, we would not yet call it a recovery, but at least see signs of stabilization. The development of e-Mobility in the second quarter must be seen against the backdrop of a very strong performance in the previous year when supply chain problems in the automotive industry finally were resolved and demand in the end markets was high. Here again, the sequential evolution reflects a certain stabilization at current levels. The decline in the e-Bike business area reflects the ongoing destocking process, which is taking longer and is proving harsher than any industry insider or experts expected. As mentioned, while difficult to judge, we do not expect any further deterioration from current levels. Without providing explicit previews per quarter, our defensive and conservative base assumption would be that we continue to hover at around current levels in the next few quarters. With that, I would like to hand over to Daniel, who will run you through the financials of the first half year of 2024.

Thanks, Sven, and hello, and good morning to all of you also from my side. Let me start the review of the financials on Slide 6 by looking at the sales and profitability. As mentioned before, the second quarter was similar to what we experienced in the first quarter. Therefore, the overall first half 2024 business performance was in line with our expectations and what we guided for. The e-Mobility business area saw a small 3.7% decline to EUR 24.6 million compared to the same period in the previous year and thereby remained relatively stable despite the tough comps when highlighted earlier. Demand for EHV was solid, despite weaker demand in the end market. In the e-Tools business area, declined by 20.9% year-over-year to EUR 15.1 million, as power tools could not compensate the business in gardening tools, above all in the first quarter of the year. However, this business area experienced another slight sequential improvement, and we therefore assume a stabilization of more or less current levels. The e-Bike business area saw a decrease of 13.8% to EUR 10.5 million. The environment in the e-Bike industry again remained volatile as destocking is still ongoing in all channels. However, we assume that we are close to the true and hope to see a certain recovery in the second half of the year and forward in 2025. Now let's move on to the gross profit and gross profit margin, shown in the middle chart on Slide 6. The adjusted gross profit decreased to EUR 23.5 million in the first half of 2024, primarily, lower volumes and production result in negative operational leverage and have introduced inefficiencies characterized by stop-and-start costs, which had again burdened our gross profit margins. These interruptions disrupt workflow continuity leading to increased operational expenses and reduced profitability. Furthermore, the gross profit margin was also negatively impacted by additional costs related to the ramp-up of a new project. These expenses were primarily associated with the initial process setup and essential training programs. While these costs have impacted our short-term margins, they are critical to ensuring the successful launch and long-term growth of this strategic project that has a duration until 2029. We anticipate that this will taper off in the coming quarters, as the project transitions into operational phase. Lastly, our gross profit margin was also slightly affected by unfavorable product mix within our e-Mobility business area. A higher proportion of assembly business during this period has temporarily suppressed the gross profit margin. As a result, the gross profit margin in the first half 2024 reached 46.7%. In absolute terms, the gross profit declined by EUR 6 million year-over-year. Despite our constant efforts to streamline our organization and enhance operational efficiency, the chart of the adjusted EBITDA on the right side of the slide shows that our adjusted EBITDA declined in the first 6 months of the year. Thanks to proactive cost measures by EUR 1.8 million. As of end of June 2024, we see a reduction of 137 full-time equivalents in comparison to June last year. We also achieved EUR 1.9 million reduction in net operating expenses, of which $800,000 in maintenance, around $300,000 in administration and marketing and another $300,000 in other personnel expenses, things like [indiscernible] and so on. However, still due to lower volumes and related inefficiencies, these savings were not able to overcompensate the loss of gross profit and adjusted EBITDA declined from EUR 3 million in the previous year to EUR 0.5 million in the first half of 2024. Please flip to Slide 7, which provides overview to our liquidity and balance sheet profile. First and foremost, we just want to remind you that we have successfully concluded the refinancing of the company for the next 3 years in the course of the second quarter 2024. Concluding the 3-year refinancing arrangement provides stability and predictability in our financial obligations over the medium term, reducing uncertainty and mitigating the risk of short-term liquidity challenges. The 3-year horizon offers strategic flexibility, namely as to align our financing with long-term business objectives and investment plan, while maintaining financial agility. The successful refinancing underscores our commitment to prudent financial management. Our balance sheet remains very robust with an equity ratio standing at a strong 53.1%. This high equity ratio would provide us necessary flexibility as well in case we've had to enter strategic initiatives. While in parallel, it would also help us weathering unforeseen challenges. Our net debt of only EUR 6.2 million, that includes EUR 8.7 million leasing liabilities under IFRS 16 is EUR 4 million lower than 12 months ago. It remains at low levels in absolute terms, but also in relative terms with 1.9x net debt to LTM-adjusted EBITDA multiple, reflecting the temporary low performance. And therefore -- and before I hand over back to Sven, let me say that, cash is still the king and as such, allow me to emphasize our strong cash position of EUR 21.7 million, as of the end of June. Despite the continuous challenging conditions and further deterioration of the top line in the last 12 months to avoid any seasonality effects, we managed to reduce our net debt by EUR 4 million from EUR 10.2 million to EUR 6.2 million with only a slight reduction in cash by EUR 1.6 million. Our net working capital from LTM fairly significantly improved, decreasing from 13.3% during last year to 9.2% end of June 2024. This improvement reflects our disciplined approach to cash management and our ongoing efforts to optimize working capital, providing us with a good level of deliverability and thereby security. With that, I hand back to Sven for the outlook and closing remarks.

Thanks, Daniel. First and foremost, we reiterate both our 2024 guidance and our midterm targets. Yes, we have challenging times and a tough environment, but our structural and organizational measures pay off, and you can see that in the numbers. We have a solid balance sheet, and this is very reassuring. We need to be patient and stick to our stringent diligent and disciplined plan. We do not see a major recovery in our business field yet. However, midterm, we still see significant growth potential and are therefore still very confident about our business model. As I stated earlier, we confirm our 2024 guidance, which means that we expect group revenues of EUR 100 million to EUR 110 million and adjusted EBITDA of EUR 1 million to EUR 3 million and negative free cash flow of between EUR 0 million and minus EUR 3 million. For the medium term, we anticipate group revenues to range between EUR 150 million and EUR 180 million, largely driven by an expected recovery of our e-Bike and e-Mobility business. Thank you, ladies and gentlemen, for your attention. I would now like to hand the line back to the operator to open the Q&A session.

[Operator Instructions] The first question comes from the line of [ Tim Versik ] with ODDO BHF.

I have a question on the inventory development there. Can you say more in depth on the e-Bike. Is that -- do you see, let's say, a spot on the horizon? Do you see even more negative developments there over the last weeks? Can you say something about that? That will be fine.

Yes. I mean e-Bike, in fact, everybody expected some strong impact out of the Eurobike. And then the feedback after the Eurobike in Frankfurt was quite gloomy because people were saying, look, unexpected, still due to, again, the very wet weather this year in spring and early summer in Europe, but also the fact that it seems the pipeline completely overfilled in the past still is quite full. So in the end, the question now is when will it turn around? I think the one thing we continue to see is that new entrants that in the previous years have not had any volume, now having some volume in 2025, which is not significant. But to us, that is basically the signal that at least some of the manufacturers seem to have exhausted their stocks and are starting to take something in. But I think it's a very diversified picture and that was difficult to say when will the industry overall recover. That's why a lot of feedback out of the Eurobike was sometime in 2025, but whether it's Q2, Q3 or Q4, nobody really knows. I think maybe to add to that, if -- there have been studies published by McKinsey for example, that's still midterm see a significant growth in this market.

The next question is from Fabio Holscher with Warburg Research.

I have several questions. I'll try to take them one by one. First, maybe on e-Mobility. How is the slowdown in the EV going to affect your OEM mix in the coming quarters?

Yes. Obviously, we see some impact, I think, but it's not substantial. Again, I think we believe that also in that segment, we will not see any further declines, but we may see a slower-than-expected recovery with the new business that's coming in, that in some cases, has been moved out as companies really are sort of reassessing their product portfolio decisions on what product to launch when. I think one thing that went through the press, for example, that has been seen is that Volkswagen has decided to discontinue to use the Audi Q8 or the Audi e-tron in the Brussels plant, which originally had been planned to continue at least until the end of next year. So we see some impact. I think, nonetheless, again, we see this as a slowdown temporarily with a long-term positive effect. And as we always mentioned as well, e-Mobility us, in many cases, is not the e-Drive of an e-Vehicle, but it's also full electric systems like braking and steering that will be applied independently on whether it's an electric or hybrid or even a combustion engine vehicle. But also there, we've seen slowdowns or delays in projects. But midterm, they won't impact us. But right now, yes, we see some slowdown.

Okay. And then I'm curious, what do you think -- what are the tapes for e-Tools to fully recover? Is time and destocking the deciding factor here as well? Like an e-Bike or perhaps something else that could provide uplift?

Well, again -- I mean, we've seen some stabilization in our -- in Far East, even a slight pickup. I think it's a mix of stocks going down, which is happening to some extent now. But of course, if you look, for example, at the construction industry in Europe right now, with the interest rate increase, we've also seen a slowdown in activity, at least in Germany of close to 40% on new projects, and that is impacting the tool business. So hopefully, we will see slow recoveries bit by bit, but not at a fast pace.

Okay. And then on cash flow, I noticed an almost flat investing cash flow after H1 due to asset disposals almost in the amount of CapEx. Can you maybe give some color on the disposals and how you expect investing cash flow to move in the full year?

Yes. I mean we have also mentioned that also in the previous call at the end of the day, we are fully aware that cash remains to be the main factor that will allow us to ramp up the business once the markets will recover. And therefore, we continue to monitor it very closely. So all the CapEx requested we receive or all the CapEx requested or raised in the group are at the end landing either on Sven table or my table on both of us and we are approving that. And we see that it brings us to the right results at the end of the day. And we will be reaching the guidance through the year, probably on the lower side of it, yes, closer to 0 than to minus 3. Also in the first half of the year, we have sold some few assets that we considered that we will not need them in the near future and not in the midterm future. And therefore, it had also a positive impact on our cash flow, but this positive impact was also foreseen when we provided the original guidance at the beginning of the year.

Okay. And then lastly, a broader question, given how cyclical and dependent on discretionary spend, your industries are. I mean you've been suffering from these effects for almost 2 years now. Wouldn't it make sense to sort of strategically expand into other, perhaps more defensive industry? I'm sure this isn't something that can be done overnight. You've probably given it some thought already. So if you could share that, please.

Yes. I think honestly, we looked at that already at the end of last year. I think in the end, we are looking at other industries. For example, especially if you look at industrial applications, we have some projects that are running there. Also one that came in that is small, but it's basically just giving us some experience. I think the key question is what industries do we go into. And we've clearly made a decision for the time being also in view of preserving cash and investments that, for example, entering something like the aerospace industry or medical, where we are not known, and we actually even lack that specific certification would probably take a year, 1.5 years of effort, would cost at least EUR 0.5 million to EUR 0.75 million to implement. And that's where we believe the fruits are hanging lower in the existing industries and industrial than in trying to enter a business that would provide a far bigger hurdle. And normally, I would say that the mix between tool, auto and bike, they typically don't all go down at the same time. I think this is the first time we've seen that to that extent, especially as we say that we normally an automotive, are involved more at the high end of the business, which is typically resilient to changes, but that has been more, I think, a sort of reassessment within the industry rather than an end consumer assessment that is causing some of the projects to be moved or slowed down. So again, open eyes, but not with a focus on now taking a bigger hurdle on completely new industries.

Next question is from Christian Glowa with Hauck.

My first question is also related to the last one asked. Maybe again, it's about product -- new product innovations. And to make it more specific, I think you were already kind of doing prototypes or at least making some offer -- serious production when it comes to breaking by wire. Can you give us an update on that -- on these projects? Is that anything near term, which might ramp up?

Yes. I think in the end, honestly, again, long-term perspective of these kind of products is substantial. What we have seen also here is that the launch of some of these products has been delayed and also the volume taken down. As for example, in one case, it was the launch at -- for our customer, was an electric vehicle manufacturer. So in the end, that doesn't take away the long-term perspective. But sadly, that's taken -- slowing down the ramp up that I think that can change tomorrow because they may now look for new parts to launch these products with. So we're spending a lot of time and we're doing a lot of investments, and I think we still see the potential. But sadly with the current reassessment within the industry that's slowed down.

All right. And then my last question would be for Daniel, on the refinancing. Can you share a bit about the conditions and potential bank covenants you have agreed on?

Sure. The conditions are market conditions, so it's reward plus a margin, which is fixed for the whole period. And with the new financing, we have no covenants, as we have provided some fixed assets in Germany and collateral loan agreement.

The next question is from Alex Nieberding with Nieberding Family Office.

I have questions for both Sven and Daniel. I'll start with Sven. As a follow-up to one of the previous questions, you were discussing potential catalysts for the recovery of the e-Bike business. And you mentioned that the sales have been depressed by wet weather in the spring and the summer. And obviously, the inventory is still destocking. Are there any other significant catalysts that could help boost the sales of the e-Bike business, something in the macro area, economic recovery? What -- how would you respond to that?

I mean, I would say, obviously, consumer confidence right now or consumer hesitation is still out there. I mean we've got 2 wars going on or potentially 2 wars. So people basically are hesitant on the discretionary spend. I think what we've seen last year and possibly this year is people have moved away a little bit from things like bikes and moved into travel. So that is something that has moved it from our markets to others. Interesting fact that somebody told us actually the other day and the discussion is that every year in Europe, when there is a football championship -- football championships, typically, the e-Bike industry declined by 5% to 8% because people sit in front of the TV rather than cycling. So that hopefully will be something that moves. But again, the biggest impact going forward is still going to be, number one, I think the infrastructure measures that a lot of countries are taking right now, especially on cities, which I personally see, for example, and this will go off where -- which increase in dedicated bicycle lanes, traffic lights that basically give priority to bicycles. Changing that infrastructure to really incentivize the use of bicycles will have a significant impact I think that's why if you look at the publication at McKinsey that a few weeks back, they basically still predict in midterm in the next 5 to 7 years, a 360% increase in this business, which, of course, would be massive. So that's why I think in the end, we still believe in it. I think the one thing that is battling to everybody is the stock that still seems to be out there for a substantial portion of the business. But yes, we do hope that throughout the next 12 months, that will finally disappear. And that alone will give us the opportunity to grow somewhere probably between 20% and 30% at some point when retail sales match the supplies that we do into the business.

Okay. I was reading feedback coming out of Eurobike. And one of the interesting things regarding each year is that Bosch is feeling a lot of pressure from competition in the Drive segment. There are new suppliers coming up with competitive products. They mentioned DJI and CF. My question for you is to what extent your sales force is encouraged to diversify the customer base? To what extent are you able given IP to diversify the customer base? And is this -- is it a priority? And if not, why not?

No, it is clearly a priority. I think we've mentioned that sometimes in previous calls, we've onboarded at least another 5 manufacturers, I believe, since I joined. The big issue they have at the moment is that a lot of these companies start -- try to work with smaller manufacturers at the beginning. And in the end, in the last 12 to 24 months, basically bike manufacturers have decided to stick with what they have because typically changing the supplier means changing frame design and there's so many old frames left that they're basically not able to switch over to the new supplier. But we are working in total with [ 8 ] bicycle drive manufacturers that also address different segments because one thing we will clearly see is a segmentation in this business on a very low power, for example, for a city bike to, of course, things like mountain bikes with higher performance or even more on the cargo bikes. So I mean there are, for example, manufacturers out there today that come up with concepts that don't have a drivetrain, where you really on the pedals more or less generate the power that then basically is driving a motor on the wheel that will allow a much better architecture for things like cargo bikes. And we are working also with customers like that. So very clearly, we believe that while our main customer in that business continues to be significant for us, and we are that sole supplier on key components for their new generation performance bike, we very clearly are diversifying in that area.

Okay. That's good to hear. Questions for Daniel, if I heard you correctly, you mentioned that the leverage was 1.5x, but in the presentation, it's 1.9x. I probably just misheard you. So is the presentation correct at 1.9x?

Correct.

Okay. In a way, it's a move point now because the excellent question we had just before this revealed that there are no more financial covenants under the terms of the refinancing. So I congratulate you for the refinancing. That was probably a very important step. Could you perhaps provide a little bit of color on the comment that you've negotiated a 3-year term in order to retain strategic flexibility.

Well, I think in the -- in situations like this, what you do see is a certain hesitation. I mean a few years back, banks were running the door down trying to give you money for this business. That's changed somewhat, especially if you look at the issues that the bicycle industry has had in the last 12 to 24 months. So I think seeing this, it was a very good decision that Daniel made to enter very early into discussions with potential new financing partners and to make sure that we then are covered for 3 years in order to not be dependent on a recovery that happens within the next 6 months or 12 months. But to really be able to say, look, we control the business to make sure that we stay on at least 0 cash flow. And at the same time, we have a financing that allows us to continue at that level until markets come back. And then we can take...

Okay. I understand. You mentioned that it's a Euribor plus a fixed rate, which sounds like a floating rate because, of course, Euribor is floating. Given the likelihood, I mean, ECBs already start cutting rates on the euro, not -- I don't have a crystal ball at home, but it's possible that the rates are coming down. Are you planning to hedge that? Or is it partially hedged your interest rate exposure is what I'm referring to?

No. At the end of the day, we haven't hedged that yet. And if the Euribor is going down, then I would assume that there is no point to hedge it as well. If I say, also add to what Sven said before, about the refinancing, I mean one of the decisions that we have made is basically to decentralize the financing. In the previous agreement that we had, we had basically the financing ran at the hGears AG, which is, of course, the mother company, the listed company and the mother company provided the financing to the production plan for their investment plans and so on. And what we try to do is also due to a different situation with the financing institutes between Germany and the Italy is we basically decentralize it and brought it down to the operational entity also to take care for the financing. And that's one of the reasons why we were able to secure it without any covenants and for a longer period of time. So at the end, it was a decision that we made here to make sure that we have enough flexibility in the next couple of years -- in the next 3 years to make sure that we -- when the markets recover, we have enough liquidity to ramp it up.

And to be honest, let's face it, when you do it local, it gets the local entities to take more responsibility for their own decisions. They are more prudent to take any invest decisions and whatever. It's really something that is in their ball. Of course, we support it or coordinated. But I think from a management point of view, it was the right decision also from that point of view.

[Operator Instructions] Mr. Weiz and gentlemen, there are no more questions registered at this time.

All right. If there are no more questions, then thanks, everybody, for joining the call. Yes, and talk to you soon, either individual discussions on the next earnings call.

Also from my side, and have a good summer break. Thank you, everybody.

Ladies and gentlemen, the conference is now over. Thank you for choosing Chorus Call, and thank you for participating in the conference. You may disconnect your lines.