Luceco plc (LUCE) Earnings Call Transcript & Summary

Good morning, and welcome to the Luceco plc Final Results Investor Presentation. [Operator Instructions] Before we begin, I'd like to present the following poll. And I'd now like to hand over to John Hornby, CEO. Good morning, sir.

Thank you very much, and good morning, and good morning, all the listeners, and thank you for your time in attending the Luceco 2022 results presentation this morning. These results were in line with January trading statements, operating profit of exactly GBP 22 million on revenues of GBP 206 million, resulting in EPS of 11.1p. This result is normalization after an extraordinarily strong year that we had in the pandemic in 2021. And Matt is going to talk more about this. But as we know, our customers overstocked themselves in that period, and since then, there's been a slowdown in the residential RMI demand. However, against the prepandemic period of 2019, the results have been excellent. And revenue -- the revenue up over 20%, operating profit up over 20% and adjusted EPS up over 44%. And we have gained share in the attractive markets in which we operate. As I said earlier, we have experienced a slowdown as we would expect. However, customer destocking is nearing completion, and therefore, our revenue stream this year should be more normal. And our gross margins are improving considerably. Matt will speak more about that. Our cash generation in the second half of last year was extremely strong, resulting in a very healthy balance sheet. Our outlook for 2023, so far we are trending in line with our expectations. Our customer destocking, as I said, has been less this year than last year. Our gross margin is improving as input costs continue to fall. But the slower residential market is resulting in weaker end user demand, but the comparisons get easier as the year goes on. With that, I'll hand over to Matt.

Okay. Thanks, John. Morning to everybody. Nice to be back on the platform. So let me just start by putting out some of the key themes within our numbers before I go to the numbers in detail. So before I talk about 2022, I should just quickly remind you of how we entered that year. So 2022 came on the back of an outstanding performance, as John has said, in 2021. In that year, the pandemic drove strong demand within the residential RMI market and particularly within the DIY part of that. It also created significant supply chain disruption, and customers responded to strong demand and uncertain supply by increasing their stock levels. This added some already strong demand for our products, resulting in 2021's exceptional sales and profit performance. Almost inevitably, we've fallen short of that record performance in 2022, and you can see in the red numbers on this page, we see a slowdown in underlying demand, particularly within that DIY sector, which drives about 1/3 of group revenue. The demand from other areas of the construction market have actually remained relatively robust. But the slowdown in underlying demand was not the biggest driver of our 2022 performance. The biggest driver is that our customers in the distribution channel have responded to slower demand and normalizing supply chains by removing that extra inventory of our products they bought in 2021. And this left our 2022 sales unusually but temporarily lower. I will talk more about this in the end. So this customer destocking explains all of the reduction in sales and profit versus 2021 that you can see on this page. And whilst it's naturally disappointing to fall short of 2021's record result, we must also try to look through the highly unusual pandemic period to assess the progress that we're making longer term. For this reason, I've added a pre-COVID 2019 comparator on this page. As you can see, despite giving back some ground in the year, we have remained well ahead of 2019's performance across nearly every metric. And we have taken share in our attractive markets using our advantaged business model, which is very encouraging for the future, and John will spend some time on this later. So those are the key themes. And with that, I will get into the numbers in a bit more detail. Okay. So reviewing the income statement, you can see that revenue came in at just over GBP 206 million, as John said. That was 10% lower than 2021 due to customer destocking, but it remains 20% higher than pre-COVID levels. The combination of organic growth and M&A means that we have gained share in our most attractive markets during the pandemic. Gross margin for the year was 36%. Whilst lower than 2021 and lower than really where we want to be longer term, we were very pleased with how our margins improved as the year progressed thanks to proactive action on selling prices and recent easing of input cost inflation. This margin performance was all the more impressive when one considers that customer destocking left our manufacturing overhead relatively underutilized, suggesting room for further margin upside as volumes recover. Overheads came in at GBP 52.3 million with the majority of the increase year-over-year attributable to acquisitions. Overheads for the rest of the group increased only slightly. Tight overhead control has been a key driver of recent improvements in our profitability, and we maintain that discipline in the year. Adjusted operating profit was then GBP 22 million at the top end of our previously guided range. And similar to revenue, customer destocking resulted in that reduction in profit versus 2021, but the profit does remain well ahead of prepandemic 2019. Turning to tax. Our tax rate has continually reduced over recent years as we've taken appropriate advantage of various government incentives. We expect an effective tax rate of about 15% for this year. Actually, we achieved a rate of 11.3% thanks to some one-off benefits, and that pushed our adjusted EPS up to 11.1p, which was slightly ahead of market expectations. Okay. So this slide provides a bit more detail on the drivers of our revenue performance. As I've mentioned, the biggest influence on our revenue performance year-over-year was not changes in end market demand but rather how our customers in the distribution channel, serving those end markets, have chosen to flex their inventory of our products in the highly unusual circumstances of the pandemic. This was particularly done in the retail and hybrid channels because the business model of these distributors requires, as a whole, more inventory of our products. Plus also, they did experience the largest change in end user demand as DIY activity normalized postpandemic because [indiscernible]. We also saw some professional wholesale customers buying stock ahead of price increases in 2021. The net result is that our largest customers stocked up by GBP 27 million in 2021 and then stocked down by GBP 20 million in 2022, thus creating a GBP 47 million swing in revenue year-over-year. As can be seen from the top chart, destocking, therefore, explains all of the like-for-like decline in revenue we see. Needless to say, this means that like-for-like revenue, absent destocking, you have a worse demand for our products from our end markets was flat on last year. Consequently, underlying demand was better than what our headline numbers suggests. Despite the headwind of destocking in the year, you can see that our revenue remained well ahead of 2019 levels thanks to both M&A and like-for-like growth. Within this increase in revenue since 2019, there has been an important change in mix. Efforts over recent years to rebalance our revenue to more professionally installed products, particularly those installed in nonresidential settings, has allowed us to mitigate the slowdown in DIY and also benefit as high energy prices drove strong demand for commercial LED retrofitting. Okay. So this slide shows the drivers of our profit performance. Overall, the story once again is dominated by customer stock movements. I just referenced a GBP 47 million like-for-like swing in revenue from customer stock movements. These movements largely impacted our high-margin wiring accessories sales, meaning the profit impact of the revenue reduction was pretty high at GBP 24 million. Despite this, you can see that the like-for-like profit decline was limited to GBP 17 million in [indiscernible]. So why is this? Well, the reason is the weak cost on like-for-like profit growth from the full impact of selling price increases that we put in place during 2021 and 2022 to combat input cost inflation. Input costs rose sharply during the pandemic. Even though we monitored these costs very closely, and I believe responded as proactively as best possible to them, we did not fully recover all of the cost inflation that we faced in 2021, meaning our profit was held back slightly in that year. This gap closed in 2022 as we expected, and that added about GBP 8 million to our profit. Input cost inflation is now in reverse, at least for us. As the global economy cools, I've got a slide on that in a moment. Given the way the customer destocking held back profits in 2022 by about GBP 10 million, in fact, our profitability will benefit as customer destocking comes to an end, helping to counterbalance the impact of weaker macro conditions. Okay, so given how evidently important customer destocking was to our performance in 2022, I've shared a detailed slide on it here. The graph summarizes inventory value, which is shown in the dark green, and also inventory cover, i.e., inventory relative to demand, which is shown in the light green. And this is as held by our largest retail and hybrid customers during the pandemic. These customers drove most of our destocking impact. In 2019, which is over the far left-hand side of the chart, you can see pre-COVID, how stable customer inventory levels were. In other words, customer stock movements are not normally a big driver of our performance, but the pandemic created an exception to that rule. In 2020, COVID-related supply chain disruption meant that customers were unable to add inventory quickly enough to cover the strong lockdown DIY demand, meaning our customers started 2021 in an understocked position, as you can see from the light green bar. Customers placed very large orders to correct this, increasing inventory levels very materially in 2021, as you can see in the dark green line. Due to supply chain disruption, many of these orders, unfortunately, arrived a little bit later than planned in late 2021 and early 2022. From a customers' perspective, their inventory cover at the end of 2021 seemed appropriate for the high demand they were experiencing at that time. But unfortunately, demand had already begun to slow as the pandemic drew to a close, and it slowed further and further inevitably in early 2021 (sic) [ 2022 ] as hostilities in Ukraine dented consumer spending. Thus, an understock in 2021 quickly turned into an unexpected overstock stock in 2022. And customers, therefore, started to destock in early 2022, and as you can see, particularly rapidly in the second half of that year. As we sit here today, you can also see that this destocking phase is largely complete with inventory cover largely back to prepandemic levels. We continue to estimate that the total impact of destocking on 2023 revenue will be circa GBP 5 million. As you look at the inventory value movements in 2021 and 2022, you can see that they largely mirror each other, adding extra stock in 2021, increasing our sales, removing that extra stock in 2022, reducing our sales. We're trying to understand and normalize results for the group absent this temporary -- these temporary stock movements. It is, therefore, not unreasonable to average the performance of both years, as I've shown in the bottom right. Now admittedly, that average does include 2021, a year in which our core residential RMI market was experiencing strong demand. But this strong demand also brought with it significant cost inflation that we have not fully passed through in that year, as I referenced earlier, making it basically a year of above-average activity but below-average profitability. The 2 impacts broadly offset one another. This adds some weight to the argument that the group can return to the average performance shown, of course, as macro conditions allow. In summary, the impact of customers' destocking has been unusual. It's been significant, has masked our underlying performance, but the issue is now largely behind us. Okay. As I said, whilst customer destocking inevitably left our results lower than 2021, we were encouraged by our underlying progress, which improved as the year progressed. As you saw in the previous side, customers destocked more rapidly in the second half. And there's also little doubt that conditions in the residential RMI market began -- became tougher as the year went on. Therefore, profit in H2 should have been materially lower than H1, but it wasn't. So why is that? Well, there are 2 reasons. Firstly, our gross margins, as you can see, improved from 34% in the first half to 38.1% in the second half as in fact we said they would, thanks to selling price increases and some cost deflation. Secondly, we saw improving demand for LED retrofits into nonresidential and infrastructure markets. This, for example, helped Kingfisher Lighting, one of our companies, to deliver record profits, and John will talk about that later. In summary, we ended 2022 with encouraging trading momentum, and this has continued into early 2023. But of course, we remain cautiously optimistic, given the very uncertain world that we are all operating in. Okay. So this slide provides a quick update on input cost inflation. The good news is that cost prices continue to move in our favor. So this time last year, I said that pandemic and conflict-driven input cost inflation in all of its forms would add approximately GBP 25 million to our annual cost base. By the half year, my estimate had reduced to GBP 21.5 million. Now you can see my estimate has reduced a little further to GBP 14 million. The biggest single reason for the reduction is freight. A year ago, we were looking at a GBP 7 million cost increase from that category alone. As you can see on the top chart, the [ on ] cost is now nil because sea container rates have returned to [ solid offs ]. We've also seen some welcome appreciation in the value of the U.S. dollar and sterling versus RMB, reducing the currency headwind. The only costs that remained suddenly high is copper, and the electrification of heating and transportation means that this may remain the case some time. The good news is that, as you can see in the bottom chart, to-date, we have experienced nearly GBP 18 million of cost inflation, meaning that, at current prices, we would see a GBP 4 million cost deflation from here, creating a tailwind to profit unless, of course, it's passed through. So through this period, we have proven our ability, I believe, to protect our margins from inflation by resetting selling prices as appropriate, which I think is a testament to the strength of our brands and our service. Okay, so just finishing up on the numbers. This slide provides -- or summarizes should I say, working capital, cash flow and debt. In short, we guided to lower inventory, strong cash generation and lower leverage in the second half, and that is indeed what we delivered. So as shown on the top left, shorter delivery lead times out of China have allowed us to remove the buffer inventory that we added during COVID without impacting customer service levels. Converting this buffer inventory into cash, whilst also, as you can see, improving our cash collection from customers drove record cash flow in the second half, as you can see in the bottom chart. This transformed our balance sheet with leverage reducing to 0.8x EBITDA by the year-end. And that has created options that we simply didn't have 6 months ago. Our full year free cash flow amounted to nearly GBP 31 million equal to a free cash flow margin of nearly 15%. You may know that we guide to average margin of at least 10% through the cycle. So this was undoubtedly a very strong performance and, of course, helped by the removal of that buffer stock. We will inevitably see some normalization of that margin in 2023. And with that, I'll hand you back to John.

Thank you, Matt. So as you can see, the pandemic had a huge impact on our performance and our numbers. But in the background, in the meantime, we have been making excellent progress on our strategy, which is to grow in a sustainable way by innovation. So I will go through now some of the long-term drivers of our market growth. The first is regulatory change. And then I'll talk about our new technology investment in the built environment and the climate emergency. Starting with regulation. The electrical installation market is highly regulated. In the U.K., regulatory change happens approximately every 2 years across our various different categories. And this obviously drives product replacement. But it also increases the average selling prices of our products as the new regulations nearly always result in a more expensive product functionality. An example of this that we showed on the slide on the top left is in the fuse board category, new regulations over the last 10 years have resulted in a 110% growth in the average selling price of these products, and hence, significant revenue growth will follow for our business. So moving on to new technology. As you can see in the right-hand side -- sorry, in the top right, we used to sell millions and millions of plastic sockets that we would sell for approximately GBP 1. We now sell much more sophisticated USB-A, USB-C sockets in lots of different finishes with an average selling price increase of over 800%. This has obviously driven both our revenue and our margins significantly higher. In terms of the built environment, U.K. house prices have risen by approximately 6% on average since the year 2000, which has supported residential RMI investments. This is growing by approximately 4% over the same period, significantly faster than the overall growth or the GDP. People want to invest in the appreciating assets, and they need to as the U.K. housing stock continues to age. So both of these support the long-term growth of the products that we sell. And finally, the climate emergency. This is a huge challenge that will result in more electrification in the homes. And as we are market leaders in U.K. residential electrical products, we would therefore hope that our sales will increase as a result of this. So you can see on this slide how these things have impacted our growth since 2019, U.K. GDP just over 10% and our growth almost double that and our earnings almost 4x of that. And you can see in the top right that we've also managed to diversify our customer base. We are now more focused on the professional channel, which has higher margins, and the brands have more focus as well as picking up. And you can see in the bottom left hand, how do you call that, that there is huge potential for us to move into other areas. The U.K. electrical wholesale market in which we are a major operator is worth over GBP 3.5 billion. So here is a case study of a business that we bought in 2017. We paid GBP 9.8 million, which at the time was 7.5x EBITDA, and the business at that point turned over GBP 12.1 million. Well, last year, it turned over GBP 17.7 million, and we increased EBITDA from GBP 1.3 million to over GBP 2.7 million. And this year, I think it will be even stronger than that. So how do we do this? Well, hastily, we just integrated this business with our group R&D function and our group sourcing function. We invested a lot in the product range, and we also bought the manufacturing of that product into our own facilities. As a result, as you can see, we improved the gross margin by over 6 percentage points. And last year, we claimed [indiscernible] which I think will be an extremely important and relevant acquisition for our future, the EV charger market, which -- so every home with an EV charger -- so every home that has -- every household with an EV will have an EV charger in the home. So the market for EVs has been slowed recently for all the well-publicized reasons. But if the government sticks to their plan of only plug-in cars by 2030, this is a market which will have to explode. And this is a product which is installed by our existing customer base as our existing end user, the small professional electrical contractor. So we currently have 4% market share, which we are confident of growing over the next coming years in the market, which is set, as you can see from the graph on the top right, to grow considerably. So I strongly anticipate that, in future years, this business will make a huge contribution to our overall performance. We have strong high-growth new products. This has always been historically one of our major pillars of our growth performance. We have over 100 engineers working on new products, and the current projects, as you can see in the bottom right, of the expansion and improvement of the DW Windsor range, this is a business that we bought last year, a huge expansion of the commercial EV offering and other areas where we believe we can participate in the green home revolution. This is a good example of innovation. A new range of wiring accessories that we launched last year has been extremely well received by the markets. It was -- this is a common platform approach with our existing products. So the development cost was only approximately GBP 100,000, but we expect huge additional sales in this high-margin range in future. And so these -- are further important pillars for us. We have been investing a lot in the trading of the smaller contractors of the Luceco Academy. We have become carbon-neutral operationally in the year. As you see from the graph in the top right, we have the lowest carbon density of any major operator in our sector. We also gave a significant pay rise last year of approximately 7.5% on average and over 10% for our lowest-paid people. In terms of the [indiscernible], I touched on this before, but looking at some of the indicators, so you roughly split our revenue into these groups. The hardest hit so far is the residential DIY market, the likes of B&Q and those guys. They are having, because of the cost-of-living prices, a hard time at present. And our sales in this sector are down approximately 20%. On the residential professional side, that is holding up stronger, and our sales are down approximately 5%. On the nonresidential and the infrastructure, meanwhile, those parts of our group are actually performing very strongly. And as Matt said earlier, the high cost of energy means that LED retrofits have a shorter return on investment period than they did before. So these businesses are actually outperforming. So the overall outlook, as I said earlier, 2023 is so far in line with expectations. There's a significant tailwind from less customer destocking and high gross margins. And it's the lower input cost that we experienced in the second half of 2022, as they feed through our inventory and into sales, we expect gross margins to improve as the year goes on. However, slower residential RMI demand is obviously a headwind. But the comparisons get easier as the year goes on. We are normally a second-half-weighted business. However, last year, we actually made more money in the first half than in the second half. But this year, I suspect, that will return to a more normal pattern. With that, I will hand over and take any questions any of you might have.

John, Matt, thanks very much for your presentation. [Operator Instructions]

Very good, thank you, Alessandro. Right, so the first question here comes from [ Stephen ]. So why exactly was there an GBP 8.3 million charge as a financed expense below operating profit level last year? Yes, good question. So part it would have been our normal finance expense, i.e., the interest that we have to pay on our debt and on our leases. However, there was an adjusting item in there as well, so it's something that we need to be unusual we carved out of our underlying results and, in fact, we've always carved out of our underlying results, and that is the gain or loss that we've made in the year on our FX contracts and our interest rate hedges. So modern accounting requires you to value all of those instruments at the balance sheet days. We've obviously got a lot. We buy well forward into the future within our currency. And what happened in 2022 is that we came into that year with those instruments very much in the money. We -- for us, it's really all about the U.S. dollar-RMB rates. At the end of 2021, the RMB was very strong against the dollar. Our contracts were a lot better than that, so it gave us a very big gain. As 2022 proceeded, the dollar became a lot stronger against the RMB, and the gain that we had on paper began to reverse, hence, why you have this accounting charge. I can tell you, for me, it doesn't mean anything. [indiscernible] underwhelming performance at all. These are contracts that will mature in the future. And when they do mature, the gain or loss that we will actually make may bear absolutely no resemblance whatsoever to what we currently got in the works, right? So that's an explanation as to why the finance charge was higher then. Right. Second question is from Sam. Thank you, Sam. Can you expand on your buy-and-build strategy? What is the criteria around acquisitions? Are there any plans to further advance in EV? Or are there any other areas of interest?

Yes. Thanks, Sam. The criteria, I think, is a business that is more valuable when owned by us than it is when owned by others. So if we can buy a business around where we think we can -- by integrating it with what we already have, if we can increase the performance, increase the value, and we combine our business at a reasonable cost in terms of lost business profits, and then we ask -- we are, I would say, reasonably agnostic as to what that business is. We'd like to be in a market which is attractive, potentially a market which has some growth and in a territory which we'd be comfortable operating. But it doesn't have to be wiring accessories. It doesn't have to be lighting. But obviously, those are areas which we are some of the best and where maybe we can add the most value in terms of synergies. For EV, yes, I mean, look, we've got very big plans to expand our EV business. We certainly plan to move our EV products into those other territories where we have international distribution. So we have this outside of the U.K. We have a successful business in Thailand. We have a successful business in the Middle East. We have a successful business in Spain, Mexico. We would certainly want to expand the EV products into those areas. I would love to buy more EV distribution overseas. I don't think we need to do it in the U.K. because I think we have everything that we need in the U.K. to have a significant launch. But I think buying an EV business overseas would be difficult and would be expensive. I mean, we've paid a very reasonable multiple for the Sync EV business, about 10x earnings and about 2x sales. But I think that was a -- it was a small business. And I think we got lucky. Now I think trying to buy an EV business would be expensive, though I wouldn't really [ like it ].

Very good. Okay. Another one from Sam. What impact do regulatory changes have on your business model?

I'm not sure they have a huge impact on our business model. I talked about how regulation updates in the industry have a beneficial impact on our revenue growth. I can't really think of how they affect our business model. I mean, certainly, there are regulations coming down the line on energy efficiency in commercial buildings, which will drive LED and lighting upgrades. So that's a very positive thing for us. But I can't now think of any...

Well, I think the only thing to add maybe is that, I mean, there is a constant drumbeat in March of regulatory change. That generally helps with revenue and margin, as John referenced earlier on. I think that just mean that we have to invest continually in R&D to make sure that we keep up with those regulatory changes. And also, I think there are areas where we influence such a thing, the regulatory outcome, not as much as perhaps we'd like to, but in certain parts of that business, that is the office power business, in particular. So providing wiring devices for tables -- underneath tables such as this, we have been quite influential in terms of how regulations are drafted in that part of the market. And of course, that is -- yes, that's helped with [indiscernible] recipe.

Yes, I think that's fair. I mean, we need to make sure that we are always in line and ahead of the regulations. So that does mean that our business model, as Matt says, has to involve investing in updating our products and making sure we're always where we need to be.

Only one other thing to add to that, though is this, sometimes these regulatory changes, they're not as smooth as perhaps you might think. Sometimes they can come quickly or quicker than expected. Sometimes they can be a little bit opaque. So it's incumbent upon the manufacturer to be very flexible in those kind of circumstances. And I think our vertically integrated model allows us to kind of cut through the uncertainty and probably get products into the market quicker than most.

Yes, and I'll give an example. I mean, there was a significant regulatory change in EV and EV charger category on the 1st of January this year that actually meant we had to pull out of the market in January and February all the products that we've sold, before, because the regulation team only came in without much notice. But as a business, we were able to manage that very well. Having our own manufacturing operations mean that we can modify products quite quickly. But it's one of the reasons that the EV sales were a little bit disappointing in the second half of last year. But [indiscernible] the EV sales are now back up to where we thought they should have been. But this regulatory change did have an impact, for sure.

Okay. Right. So the next question is from Scott. Thank you, Scott. Appreciate -- I'm getting ahead of myself, but I would appreciate your thoughts on how China Plus One might work.

Yes. I mean, that's a very good question. I don't think you are getting ahead of yourself. I think it's an important question for us to grapple with. And I think how it would work is we would look to buy a business with low-cost, non-Chinese manufacturing, which would act, if you will, as a lifeboat, and China is still the cheapest place to just make stuff. And on lots of measures, it is still the best place to be making products in our category. But there is obviously a concentration risk we have with China. Whatever your thoughts on the likelihood of a trade -- of a future trade war with China, we are still -- whatever your thoughts on that, are highly concentrated in one manufacturing territory. But I don't think we would -- I mean, we definitely don't want to want to take work away from our existing Chinese factory. But what we want to be able to be in a position that if we needed to do that, we could do it in a hurry. And that means having it full of holes, having an operation, having non-Chinese, low-cost manufacturing that we could expand in a hurry if we needed to. And the only way to do that really is by acquisition because if we did it by a greenfield site, that would inevitably mean taking volume away from our existing factory, which we wouldn't want to do. So we are -- we have a process. We are looking at very different opportunities. And the next acquisition we make will probably make a step towards resolving this issue. Do you want to add back to this?

Okay. Next question is from Nick. What is the headcount in the business? And how is this split geographically? Any plans to increase your footprint further internationally? Should I have a go?

Yes.

So roughly 1,700 people, Nick. Roughly 1,000 of those would be in China at our manufacturing site doing a mixture actually of manufacturing and product development. Of those 700 that are not in China, roughly, I'd say sort of 500 of those would be in the U.K. Maybe sort of 100 to 200 in overseas sales offices. In terms of the geographic split, well, I think it comes back to what John has been talking about in terms of the sort of China Plus One strategy, I think. I don't think there's any great plans to increase the sort of geographic footprints of the group generally with the exception of China Plus One. So we just have to sort of see how that plays out.

Yes, I'll add. I mean, we opened our new businesses internationally trying to take advantage of the technology change in the lighting industry. So we opened businesses in America, in Germany, in Spain, in Mexico, all from scratch. And half of those businesses have been successful, but half of them haven't been successful. Therefore, I think international expansion would be via M&A, certainly our business in Mexico, our business in Spain, our business in the Middle East, all grow strongly and are all doing well. And obviously, we want to grow those businesses, but I do not think we would attempt to start any new businesses internationally other than by M&A, subject to [indiscernible], of course.

Yes. Okay. Well, in fact -- okay. Well, let's just go through them sequentially. Back to Scott, as EV becomes a larger part of the business, what impact do you see that having on margins? It's okay back to slight overs.

Yes. I mean, the gross margin is above the group average, and the operating margin is above the group average. This is mainly because we are using our existing commercial teams with our existing warehousing, and we're using our existing manufacturing facilities. So the business is not fully integrated using existing group resources. Therefore, the overhead allocation is relatively light and is, therefore, extremely high margin for us. So the more we can do that, the better it'll be for the group margin.

Yes. Okay. Right. Next question again from Scott. Is there any way China Plus One won't add to costs and reduce margins?

Yes. I mean -- yes. I mean, there is a way of doing that, which is to buy a lightweight and not use it until we need to, if we need to. My personal view is that we will never need to. But having it is a way of reducing the risks that there is a trade war with China or there is a more serious situation with China that means our supply from China would be impacted. But if we can buy an existing business with existing low-cost manufacturer but with an existing revenue stream, then that does not need to impact all our margins. Matt, do you want to add on to that?

Okay. And the final question that I've got on the board is from Stephen. So why didn't your French and German businesses prosper? They are, after all, the 2 largest EU economies. What remains for [ UNCs ] and what are the prospects? We'll just do [indiscernible] questions first.

Matt, do you want to take the first part?

Well, I mean, they are big economies. I think in our business, I think brands and brand heritage go a long way. It's one of the reasons why our business in the U.K. is so strong. It's quite hard for someone else to take market share sort of away from us. And then therefore, it makes it very hard when you are trying to greenfield into a particularly new geography where you don't have any preexisting presence. The group at the time, I think it chose the right moment to try that. Basically our entry into France and Germany coincided with the advent of LED. So a big moment of change in the lighting industry. Barriers to entry were lowered significantly just because making an LED light is one heck of a lot cheaper in terms of CapEx than making an incandescent bulb. So it was the right moment, and it was definitely worth a go. Ultimately, I think what we found is that we've come up against the barrier of quite a traditional electrical installer base that had their brand loyalty, and it's quite hard to pierce them. It's the first point. And then second, really for any business to make any money, you need to achieve quite a lot of scale. Perhaps we could have achieved that in these countries, but it would have required a very large check to get there. Ultimately, we would have been better off, well, we decided that we'd be better off cutting that check and reinvesting it elsewhere in the group, where we've got a much more existing mature profitable presence.

And then what remains for you overseas all in other prospects? I mean, as I said, we do have successful overseas businesses, our Mexican business, our Middle East business, Australian business, our business [indiscernible] our business in Asia, our business in Africa, all of those are growing. And we will continue to invest in those businesses because those are the ones that have proven they can be successful. And China Plus One will almost certainly result in an overseas acquisition. So the prospects are strong but just not via organic growth for the reasons that Matt has just [indiscernible] into new markets for the reasons that Matt has just talked about. And the second question, Kingfisher seems to be doing very well. DW Windsor not so. How are you addressing the latter? Well, I mean the reason Kingfisher is doing very well is because of the activity that we are now also doing in DW Windsor. So investing in the product range, improving our sourcing, improving our manufacturing, investing in more sales resources that we've done at Kingfisher, and we are applying the same formulas at DW Windsor. And I have absolutely no doubt, and I'm extremely confident that the same method that worked at Kingfisher will work at DW Windsor, and the gross margin will improve significantly. And there's a lot of work going on to make that happen. And I think by investing in the commercial operations business, we can also improve the revenue. So I think that business has a very strong future, has a very strong brand. It has a very strong position in the market. It's the supplier of heritage lighting in the U.K. I don't doubt that it will do very well in the future. And there's one question here, Matt, about margins. So I know the second-half margin's much stronger than the first-half margins the next year. How do you think the margins will play out in 2023?

Yes. Well, I think obviously, we've come into the year with good momentum, with costs certainly moving in our favor. And also, I guess, the prospect of volumes in our business, we believe being relatively flat, i.e., the end of cost destocking being offset by a macro slowdown. So I think if you put it all together, and actually -- I said on selling prices, and obviously, our customers are aware that there's a bit of cost inflation in the system. I think that cost inflation is benefiting us. Not sure it's necessarily benefiting the entire industry. I think the rest of the industry, they probably got quite a bit more wet from labor costs than we've got. Obviously, that's something, the new biggest source of cost inflation out there. So we're kind of less exposed to that than others. And also, the industry is still struggling with weaker sterling. Now we are impacted by weaker sterling but not as much as others. So a lot of our revenue actually comes from the dollar. So I think we will -- we've got a good chance of trying to maintain our pricing in 2023 against the backdrop of lowering costs. So that should help gross margin. So -- and ultimately, sort of longer term, I think that we have the businesses. I think we've done a good job over the last 5, 6 years of building its gross margin from, let's say, the mid- to-low 30s up towards the high 30s, maybe even 40. If you look at what we sell, should be achievable if you pick your vessels, and you go to those parts of the market, which are -- yield the best margin opportunities, then that should be achievable. I think obviously, we need to be mindful of the macro that we're all in right now, but in normal conditions, this [indiscernible] business is capable of achieving gross margins in the high 30s, maybe even 40. And I think ultimately that's the key to the business making the kind of net profits that it has mad e in the past, and I'm sure will make in the future.

And maybe we should talk about operating margins [indiscernible]. Yes, there is a question whether the 17% operating margin that we made in pandemic years is the new normal for the Luceco or whether the weaker operating margin that we made last year is more normal. Well, we would all -- I mean, we would definitely point to the fact that 2022 was also not a normal year at all. The significant headwind of customer destocking, as Matt said, particularly on our highest-margin category wiring accessories that we made in our own manufacturing plant, so the reduction down in that volume and also the weaker margin in the first half because of the time lag in order to pass through the inflationary cost increases that we experienced in 2021 resulted in a lower gross margin last year than we think we can make going forward and a lower operating margin last year since the volumes were down. So we believe that our through-the-cycle average operating margin, that aspiration of around 15% is unchanged. Average through the cycle probably means that we won't achieve that this year. We might not achieve that next year, but I think when the naive market [indiscernible] returns, the company is [indiscernible] that our business should certainly be able to get back to that level of profitability. And if you average the margin over 2021 and '22, it does in fact equal slightly more than 15%. So yes. I think we have no further questions.

Yes, John, Matt, I think you actually managed to address every question from the investors. So thank you very much. And of course, the company will review all questions submitted today, and we'll publish those responses on the investor meet company platform. But just before redirecting investors to provide you with their feedback, which we know is particularly important to the company, Matt, could I just ask you for a few closing comments?

Yes, sure. Well, I can't recall how many times we've done IMC, at least 4. It's very important to us, actually. Retail investors represent between 15% and 20% of our register. So doing the right outreach to you guys is very important part of our investor relations strategy. So it's a pleasure to be back here again. Thank you for taking the time to listen to our story. And the company -- not me, but the company will speak to you again in 6 months' time.

And on behalf of the company, I'd like to say a huge thank you to Matt for his extreme hard work and fantastic achievements over the last 5 years. I think with that, we'll sign off. Thank you very much, everybody.

John, Matt, thanks once again for updating investors today. [Operator Instructions] On behalf of the management team of Luceco plc, we would like to thank you for attending today's presentation, and good morning to you all.