OC Oerlikon Corporation AG (OERL.SW) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Oerlikon Q2 H1 2020 Results Conference Call and Live Webcast. I am Alessandro, the Chorus Call operator. [Operator Instructions]. The conference is being recorded. [Operator Instructions] The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Mr. Andreas Schwarzwälder, Head of Corporate Communication and Investor Relations at Oerlikon. Please go ahead, sir.

Thank you, Alessandro. And good afternoon, ladies and gentlemen, and welcome to Oerlikon's Conference Call on the 2020 Second Quarter Results. Particular, in light of the current circumstances, I do hope you are all well and staying safe. With me today is Dr. Roland Fischer, our Group CEO; and Philipp Müller, the Group CFO. As a reminder, all related documents on the second quarter results, including the following presentation, are available for download on our website at oerlikon.com. Today, Roland Fischer will talk about Oerlikon's development and response to the COVID-19, how it has affected us during the second quarter, and outlining our decisive actions we have taken and how we will emerge from the post-COVID-19 world as a stronger business. Philipp Müller then will give you an overview of the financial performance during the second quarter and the first half of 2020. After their presentations, as mentioned, we will host the Q&A session to answer your questions. The conference is being recorded, and the replay is available on our website shortly after the presentation today. And now having said that, I'll hand over to Roland.

Yes. Thanks a lot, Andreas, and welcome to all of you from my side as well. Before we start, let me say a few words about the challenging times we are living through. I hope you all and your families are well and you are staying safe. And I'm extremely proud of the way how Oerlikon's employees are handling this crisis with respect to the challenges, both professionally and personally. And from a business perspective, we cannot avoid the effects of said global crisis. Also, we have taken strong and decisive actions where we are able to do so, mitigating the impact where possible for our employees, our stakeholders and shareholders. And I'm very pleased to report that the Manmade Fibers segment has delivered the expected strong performance during the second quarter. We achieved year-to-date order intake of over CHF 500 million and have a very strong order pipeline to the year-end and beyond. The strong operational performance during the second quarter has enabled sales to increase more than 20% sequentially and gives us confidence that the full year figure will be over CHF 1 billion in orders and sales for the third year now in a row. We also made progress in further diversifying our Manmade Fibers product portfolio by accelerating the nonwoven business activities. The COVID-19 pandemic increased the demand for our meltblown technology. And here we are able to sign 15 contracts for the solution, which is required to produce leases for facial masks, and additional projects are under negotiation. The Surface Solutions segment was impacted across all geographies and all end markets. We have seen some initial encouraging signs of moderate recovery in June and now in July. However, it is by far too early to know for sure the degree and phasing of the recovery, given the significant risks still posed by the COVID-19 pandemic. And during the challenging lockdown period, we continue to deliver in many countries our services and technologies as they are considered critical system relevant by our global customer base. We continued to invest in innovation to serve customer needs and drive structural growth. We do have the right technologies, the financial strength and the team in place to take advantage of a market recovery. And you might recall, last year we announced structural actions to address the softening market conditions. With the onset of the pandemic, we have accelerated and deepened these measures and have taken additional cost and liquidity preservation measures. Through a combination of short-term measures and the early impact of our structural programs, we have shown excellent operational gearing, to be able to reduce operating expenses by CHF 90 million year-on-year in Surface Solutions. And by the end of June and ahead of schedule, we already actioned more than 400 of the planned 800 headcount reductions. Oerlikon and Surface Solution will emerge stronger and more nimble from 2020, and we remain committed to our mid-term profitability targets. One key element to achieve the target is a structural cost base in the Surface Solution business. Our priority is to substantially reduce the cost base, reacting to structural market trends. We are ahead of schedule with our program to reduce the Surface Solution headcount by around 10% or 800 people. At the end of June, I mentioned it already, we are more than 50% complete and anticipate being 85% complete by the end of this year 2020. The structural program is not limited to headcount, but is also designed to yield long-term benefits through more efficient working practices and technology adoption. Overall we target an annualized run rate EBITDA savings of around CHF 60 million. In total, we expect implementation costs of around CHF 60 million. And here, let me remind you that CHF 25 million have already been booked in 2019, and CHF 21 million will be booked and were booked in the second quarter of this year. Our global service network, leading technologies and market position will preserve the ability of Surface Solutions to grow structurally once markets recover and return to growth mode. Nevertheless, we are continuing to evaluate actions to further optimize our structures and cost base considering the current environment. The elements of top line growth in combination with cost discipline and capital efficiency provides the framework to achieve our midterm commitment to group EBITDA margins between 16% and 18%. Over the past quarter, we have seen a continuation of multifaceted economic development of the COVID-19 pandemic, which we experienced already in the previous quarter. The strength of Manmade Fibers' market position, customer proximity and order book continue to provide a stable base in this economic environment. Our order book in the filament business remains sticky, with no cancellations and continued visibility out to the year of 2023. The special filament business, including industrial and carpet yarns remain weaker as a result of preexisting market softness and the geographical profile of our customer base outside of China. The COVID-19 pandemic has, however, generated a strong global demand for Oerlikon's meltblown nonwoven technology, which is used to produce face masks. This demand has grown driven by government regulations as a need for greater self-sufficiency and reduced reliance on imports for critical medical items. It can be seen on a daily basis across Europe and the rest of the world with governments' regulations and guidance for wearing masks in public places. The strength of the underlying market conditions can be seen in the order intake with CHF 366 million in the second quarter, resulting in CHF 510 million for the first half of the year. This underpins our confidence in delivering sales of over CHF 1 billion for 2020. In Surface Solutions, the imposed lockdowns due to the pandemic impacted all of our end markets and provides different recovery pattern. In tooling and general industry, both representing about 17% of our first half year sales each, we are closely correlated to industrial production, which saw a substantial decline in the second quarter. All regions were materially down sequentially in the second quarter. However, we recognized a recovery pattern in China during the second quarter, with increased business activities and rebuild of inventory following the easing of strict pandemic measures. Assuming comparable scenarios for Europe and with a time lag in North America, we expect the second quarter to be the trough. The pattern of recovery is more likely to be V-shaped. In the automotive industry, which was substantially down in terms of deliveries and production in the second quarter with declines of around 30%, the market currently expects a decline over 20% for the full year of 2020. With the easing of restrictions and lockdowns, particularly in Asia and Europe, we recognized some recovery in the latter part of June as key OEMs slowly ramped up production and/or restocked for start of production. And therefore, we now assume to see a U-shaped recovery. And last but not least, in the aerospace industry, challenges have been compounded by the sudden and substantial reduction of commercial air travel. IATA forecasts a 55% decline of passenger traffic in 2020 and now expects a return to 2019 levels only in the year of 2024. This leads to a deep and extended down cycle and prolonged recovery. However, given the macro trends in global mobility and global trade, our belief in long-term structural growth trends remains unchanged. We continue to monitor the ongoing impact on the virus, including potential additional waves. Subject to the situation not substantially worsening, we see the second quarter as a trough in most markets. However, the shape of the recovery has plenty of facets across the different industries, and it is very difficult to predict. Oerlikon's stability and strength as a group and structural long-term market dynamics, combined with the decisive actions we are taking, will position us well for the recovery when it comes. And while we are navigating the continued economic impact of the downturn, we also have a keen focus on positioning our company strategically for the future. Surface Solution remains a strong and leading industrial technology business. The decisive actions we have taken will increase the resilience of the segment. The business will be capable of delivering higher levels of profitability. When there is a return to an environment of structural growth, the business is well positioned to ramp up and deliver sustainable and profitable sales. And in our Manmade Fibers business, which has evolved as a business and is today again a strong stabilizing factor for the group during this time, our efforts to diversify the business are beginning to yield results and it continues to deliver strong returns. And last but not least, our healthy balance sheet position positions us -- sorry, well for the future, and we will be ready to execute when the right growth and M&A opportunities present themselves. And following the commercial and market overview, let me now hand over to Philipp to present the group's financials. Philipp, it's yours.

Thank you, Roland. And good afternoon. Let me start with the group financial review and with a closer look at the second quarter and half year figures. In the second quarter, group order intake was CHF 604 million, down 10% year-over-year on a reported basis, and down 4% at constant FX rates. The significant decline in order intake in Surface Solutions was compensated by a strong performance of the Manmade Fibers segment. Sales in the quarter were CHF 510 million, down 27% year-over-year. FX contributed negative 4.6% to the decline as our reporting currency continued to appreciate compared to the same time period last year. Manmade Fibers sales were 23% lower year-on-year as some shipments from Europe faced delays and given the very high sales level in the comparable period last year. We're expecting the delayed shipments from Q2 to be largely caught up during the months of July and August. Surface Solutions sales were down 31% as the various shutdowns related to COVID-19 impacted all of our business lines and geographies. Operational EBITDA was CHF 55 million in the second quarter or 10.8%. As Roland mentioned, we executed swiftly on our various cost-out actions, and we're expecting continued benefits from the measures in the second half of the year. For the first half, we reported sales of just over CHF 1 billion and group operational EBITDA of 10.9%. As we have previously discussed, we are expensing the majority of the implementation costs for our restructuring program during 2020. In the second quarter, we incurred CHF 26 million of charges for restructuring and impairments of certain intangible assets that are related to these restructuring actions. In order to give you a like-for-like comparison to our prior period results, we have defined operational measures of profitability. As you will have seen in our earnings release and the half year filing, we are providing reconciliations from these operational measures to our reported figures. In Surface Solutions, second quarter sales were CHF 262 million. Sales declined 31% year-over-year on a reported basis and 27% at constant FX rates. We saw declines in orders and sales across all geographies and end markets. During the months of April and May, lockdowns in North America, Europe and parts of Asia impacted our ability to service our customers significantly. As Roland described earlier, we saw some recovery in June with substantially more service locations open and higher levels of utilization. This positive trend was confirmed during the month of July. Our ability to predict future activity, however, remains extremely low, given the rapidly changing environment. Operational EBITDA in the second quarter was CHF 17 million or 6.5% of sales. We managed costs tightly using short-term measures and saw some of the benefits from our structural cost-out program already in the second quarter. Overall in the first half of the year, we reduced operating expenses in Surface Solutions by CHF 90 million compared to the first half of 2019. Next on Manmade Fibers. Manmade Fibers delivered strong order intake in the second quarter of CHF 366 million, up 23% year-on-year and in line with our expectations. At constant FX rates, orders were up 31%. As we discussed during our Q1 results, the filament market remains robust, and we see -- we saw some of the orders that were delayed in Q1 materialize in the second quarter. Year-to-date, Manmade Fibers has booked orders worth CHF 510 million, on track for our full year expectations. During the first half of the year, we saw particular strength in our nonwoven business, where we signed customer agreements for 15 equipment systems. These systems are used in the production of face masks. We expect to continue to see a positive trend for these solutions as more countries are developing their respective independent supply chains. Sales for Manmade Fibers in the second quarter were 248 million. As previously stated, we are expecting to be caught up on the majority of the production delays by the end of August. Second quarter operational EBITDA was CHF 38 million or 15.2%. In the first half of the year, operational EBITDA was at 12.4%. We're expecting margins to continue to improve in the second half of the year. Manmade Fibers is providing a significant degree of stability to us at this point. We expect a stable development to continue for the foreseeable future as our order pipeline sees delivery lead times extending well into 2022 and 2023. We are also in process of new project discussions with customers for deliveries in 2024. Next, let me go through the balance sheet. Our balance sheet remains strong. And during this challenging period, we have a balance of cash and cash equivalents of CHF 600 million as per the end of June. Net liquidity at the end of June was negative CHF 156 million. Total equity was over CHF 1.2 billion -- CHF 1.3 billion, an equity ratio of 37%. Overall our financial position remains very strong. We have done a lot of work to make sure this remains true during this crisis. We continue to look for opportunities to deploy our balance sheet in value-accretive ways, whether that is M&A or organic investment. Next on CapEx. CapEx was CHF 48 million, down 27% from prior year's level or CHF 60 million (sic) [ CHF 66 million ]. We prioritized organic investments further during the first half of the year as we were focused on cost and cash management. Excluding the amortization of acquired intangible assets of CHF 21.4 million and depreciation charges related to the application of IFRS 16, depreciation was at CHF 63 million, roughly flat to the first half of the year 2019. Next on cash flow. Cash flow from operating activities before changes in net current assets was CHF 59 million. Change in net current assets was negative CHF 64 million, resulting in cash flow from operating activities of negative CHF 5 million. Cash flow from investing activities was negative CHF 57 million, mainly reflecting CapEx of CHF 48 million and some smaller bolt-on acquisitions. Cash flow from financing activities was positive CHF 14 million. We paid the dividend, bought back shares in Q1 and drew down on our credit facilities in the first half of the year. All in all, cash and cash equivalents decreased by CHF 57 million to CHF 600 million at the end of June 2020. Now let me conclude with a summary before we start the Q&A session. Manmade Fibers has done an excellent job overcoming the operational challenges caused by the COVID-19 pandemic and delivering CHF 510 million of order intake in the first half. We are confident to achieve our full year sales and orders targets, and we are expecting margins to expand versus 2019. Our Surface Solutions team reacted swiftly to the operational challenges presented by the COVID-19 crisis. Towards the end of June and into July, we see the first signs of recovery, but the degree and robustness of this trend are yet to be seen. Our company remains very well capitalized, and we are positioned to not only survive this crisis, but to act quickly should the right M&A opportunities present themselves. We have accelerated the restructuring program which we announced in 2019, and we're continuing to streamline our operations. With the cost actions we are taking and our leading technology portfolio, we are certain our Surface Solutions business will emerge even stronger from the crisis. The future remains extremely difficult to predict for us and many others. We continue to focus on what we can control and adjusting our structural cost footprint. As the impact of our cost actions materializes in the P&L, we expect to see margins improve in the second half of the year. We expect group margins in the second half to be 300 to 400 basis points higher than in the first half of 2020. This obviously assumes no additional material events negatively impacting the market recovery. Furthermore, as our structural cost actions are taking effect, we remain confident about our commitment to the midterm margin corridor of 16% to 18% for the group. This closes our prepared remarks. With that, we will open it up for questions. Alessandro, please go ahead.

[Operator Instructions] The first question is from Christian Obst from Baader Bank.

I have four. One is, what does it mean rightsizing in additive manufacturing? Can you give us some kind of a framework for that? Second one is the nonwoven orders, of course, positive for the entire group. But are these low to mid-single digits per order stake so that the total is approximately 50 million? Is that the right assumption? Then concerning the free cash flow, free cash flow was negative with approximately CHF 60 million in the first half. Can you give us some kind of a guidance? Do you expect to reach the breakeven level until the end of the year? And last but not least, it's concerning intangibles. You still have a very high degree of approximately 30% of total balance sheet of intangibles. And this is mainly related to Surface Solutions where you are currently undergoing very heavy restructuring. And so how is the current status of discussion with the auditors concerning further impairments maybe going forward? Or how do you see the risk?

Christian -- okay, Christian, I think I'll take the first 2 ones. And Philipp, you take the second half of the questions. First of all, on rightsizing additive manufacturing, and this is actually a very, very simple story. As additive is serving some normal conventional market segments, automotive, aerospace, we do see a certain impact here in terms of reduced volume as well. And on top of share volume and market-driven phenomena, we do see, and this goes more back to the Boeing topic 737 MAX, a certain bigger hesitance to go for newer -- for application of new technologies here. And this is what we saw, and as a consequence, we took some measures. We reduced people on the operational side, but also in the structure of the additive business. And we also went through our ongoing R&D activities and here we talk, in some cases, about very long-term projects. And here we applied a simple rule, to which extent we believe there will be in the mid or in the short term a few real revenue coming out of it. And here we did some cuts as well. The second question was referring to the nonwoven business. This is a business, here, we talk about meltblown equipment, what is in the order of magnitude CHF 5 million, CHF 6 million, CHF 7 million in revenue each system depending on scope. And normally we did few, very few units per year, but due to this COVID topic, the demand was increasing. And I think I mentioned or Philipp mentioned it, 15 units have been sold. There is an effect of CHF 35 million, CHF 40 million in this year and the same will come next year. That means it's not changing the needle in the entire picture, but it's a nice add-on here. Now Philipp?

Yes, I would say on free cash flow, I think we're expecting a substantially better second half year. If I go through the components, we will maintain the discipline on the CapEx side, so that's probably going to look similar. But I think from a net working capital standpoint, we're expecting that to be a source of cash in the second half. We had an inventory build related to some specific areas, both in Manmade Fibers and in Surface Solutions, which we're expecting to execute through in the second half of the year, equipment deliveries and so on. And we're expecting receivables to be similar, but a better performance on payables. So I would say, we're expecting a substantially better cash performance in the second half of the year. And then your last question was on intangibles. I think similar to maybe many others, we're trying to absorb and evaluate the impacts from the COVID-19 crisis. And we're trying to bifurcate between sort of what's the short-term shock impact and what are the longer-term items that might potentially impair our different business units. I think we've talked about this, the longer-term area that we really see or the longest term that we have in the portfolio is certainly the aero market. That's where we're spending a lot of time. We are substantially -- we have the same view on the aero market. It's more of a timing question. So we believe in the market and our business in that market and our ability to generate positive returns there. So it's more of a timing question. We'll go through that process as we go through the second half year and really try to evaluate what it is that we need to look at. But I would say, really, it centers around the aero market at the moment. In long term, we have -- we feel great about that market.

The next question comes from Michael Foeth from Vontobel.

2 questions from my side. The first one also regarding additive manufacturing, just to get a feel for the size of the business and how much drag on profitability this has now historically you had between 200 or 300 basis points. Just to see how much it is of a drag this year and maybe also going into next year, what your assumptions are. And then the second question is regarding your liquidity management. First of all, if you could specify how many shares you bought back in the first quarter or for how much? And then the thinking behind basically drawing that liquidity and then buying back shares and paying the special dividend, what the thinking behind that is? And how much more of debt facilities you have available at this point?

Okay. Michael, I'll start with the additive part. And I think we indicated already in previous calls that the business -- additive business in '19 was in the order of magnitude of CHF 30 million revenue top line. And this is what we are targeting for 2020 as well. But due to the vector of this crisis, we will see a certain impact here, not as strong than the other -- as in the other business, but nevertheless. And in line with this improvement measures and cost-cutting measure with additive area as well, we have been able to reduce the total absolute losses, which we generated in the past and now. And we will be -- will remain in the region of this 300 basis points impact here. I think because as we believe in the technology and as we believe in the application for this technology, we are not cutting the future. We are just cutting those elements, which we feel are not of utmost need right now.

Yes. And then I would add -- your question on the liquidity management, you would have seen in the first half of the year, we purchased about CHF 46 million worth of treasury shares. You would have seen our average price for the total buyback that we've done so far is just over CHF 9. And you can imagine that what we bought back in the first quarter, really at the beginning of the year, was significantly lower, just in line with the overall market. So that gets you to the average of just over CHF 9.

And then how much more sort of debt facility or credit lines you have available now?

We have in the cash and cash equivalents that we have on the balance sheet, the CHF 600 million, that still includes the cash and credit lines. There is some more available, but I think the -- we're looking more at an ability to sequentially repay those revolving credit lines. We -- given sort of where we are at the moment, we don't see the need to maintain these on the balance sheet. As we explained last time around, our funding cost for this is very, very limited. But nonetheless, I think during the third quarter, we're looking at returning some of those funds back.

The next question comes from Alessandro Foletti from Octavian.

Can I ask you a couple maybe one by one? First, on the order backlog at Manmade Fibers, can you give an indication how much of this will be delivered in 2020? How much then later on? And maybe if you can give a bit of an indication on how you see the pipeline of order in the different segment, also particular with reference on the BCFs business? That will be my first question. I have a couple of follow-ups.

Yes, okay. I think let's start with the BCF business, which is down right now. And this was already obvious last year 2019. And from that perspective, the demand -- additional demand in nonwoven in the meltblown equipment helps our sites in North Germany. And the second question actually the filament business, the outlook. You know that here we talk about project business. You know that we have announced, I think it was March, the 600 million new contracts, which are not yet booked as order intake because -- and, Alessandro, you know it. Having a contract is just one precondition. Others are important as well, secured financing approvals from the local authorities to build the site and stuff like that. And from that perspective, hardly anything, just maybe a minor, a very small, low double-digit million volume will be booked as order intake out of this 600 million in 2020. That means the rest is coming, and the delivery slots are reaching into 2023. That means we start delivering end of '21, then '22, and the later part even reaches 2023. And that gives us the confidence that -- and in combination with the statement we made that we don't have cancellation in this business, gives us the confidence that our Manmade business is extremely stable. They are doing well and performing well.

So maybe if I can add my second question here on the capacity utilization, you have committed to remain at CHF 1 billion plus/minus. So I believe you will stay there. But how is the, let's say, the rest of the industry behaving?

The rest of -- we should not talk too much about the others, we should talk about us. And you're absolutely right. We have made a conscious decision years ago not to substantially increase our capacity. The opposite actually was true. We closed tenets, you might recall, and that's why we are where we are. What we do is we do incremental improvements in terms of efficiency gains. If we need a machine for special drilling or whatever, we do that, yes. But we don't extend the factory, we don't build new factories. And this is our philosophy. And as far as we know, our main competitors, the Japanese family-owned company is doing similar. They are increasing the capacity within the frame of a given setup. And for the high end state of the art, latest technology equipment, these are the 2 players.

All right. Okay, fine. Maybe a very small one, and then I'll go back in the pipeline. On the corporate cost line, it was, if I calculated properly, 0 or plus CHF 1 million. Can you explain if there is something special into that one in H1? And can you give an indication for, let's say, the rest of the year, but also afterwards how high will be that line?

I would say, corporate costs are always around that level, Alessandro. You know there's certain costs that get allocated to the segments and certain that are. There's always a little bit of an over or under, but it should be in that range going forward as well.

So that means that the step down from where it was a couple of maybe 1 year or 1.5 years ago, it has been carried out and you sort of really reduced sustainably costs there?

Yes. I would -- a lot of this was obviously also done under the consideration of the changing portfolio and some of the divestitures that we've made. So I would say that. And yes, we have reduced the corporate costs and we're continuing to reduce corporate costs.

The next question comes from Fabian Haecki from UBS.

A few questions here. So first, starting with the CHF 90 million OpEx reduction in H1, can you tell us how much is kind of temporary cost reduction related to -- or how much of this CHF 90 million is related to short-time work? How much is related to other typical COVID-related savings like much lower travel expenses? And how much is already -- is the already substantial part of the structural cost savings of the CHF 60 million you're mentioning? This will be my first question.

I would say, Fabian, the -- you're exactly right with the notion that there's a number of those components in there. There is -- we're not probably going to give the exact split, but what I would say is that short-time work is probably, compared to the CHF 90 million, a relatively minor component. I would also say just with where we are from a timing standpoint within the second quarter, the structural cost-out items have also had a relatively small contribution to that, but will have a much larger contribution to the savings going forward. And then there's obviously a number of other items that react short term, this discretionary spend. Those are certain other discretionary spend controls, not just travel and living and so on, where we will continue to control those costs very tightly as we go through this crisis and where we're also sustainably setting up other business practices that will keep the costs lower. So I would say, it's really a mix of all the different cost types that you've described, relatively small on the short-time work, so far relatively small on the structural cost. And that's really the component that also makes us comfortable on the sustainability of the cost savings. As the structural cost-out component grows and we really get the run rate savings from the 400 heads that we've already reduced, some of the other things to 85% of the headcount reductions we're expecting to complete by the end of the year, some other cost items will come back. But we're sure that -- we're certain that the net of those cost savings will still help us to expand margins in the second half of the year and then also going into 2021.

Okay. That's interesting to hear. So this means -- I mean the CHF 60 million, when I think of 800 job shuts, so the 600 -- the CHF 60 million is actually more or less purely related to fixed headcount reduction. And then all other OpEx and SG&A that is in the CHF 90 million, lots of it is probably to say sticky, right? So is it fair to assume that your structural cost savings will be beyond CHF 60 million?

Look, I mean we're obviously focused on -- focusing here on a couple of different areas, just like Roland said. We're -- I think you go through a crisis like this, and it resets a lot of your cost base. So we're certainly expecting some of the other things that are now more considered a short-term saving, that they will be sticky too. So I would agree with you on that. And you're also right that the majority of the CHF 60 million are obviously predominantly headcount-related savings. When you just think about -- we've described, obviously, a lot of the positions that we're reducing here are structural in nature, so they're a little bit higher in terms of average compensation. So we try to give you all of that sort of in the margin expansion target for the second half. At the group level, about 300 to 400 basis points higher than in the first half. And certainly Surface Solutions and the cost-out measures that we're taking there play a big role.