Pennel & Flipo SPRL (ML) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Michelin conference call. I now hand over to Mr. Yves Chapot General Manager and Group CFO. Mr. Chapot, please go ahead, sir.

Thank you. Good morning, everyone. Sorry for waiting you up so early on the Monday morning, but we wanted to share with you the announcement that we did this morning. As yesterday, we have signed the acquisition of a company called Flex Composite Group, which we are currently belonging to IDI, the French private equity company. And through this operation, we are going to create the leader in high-tech engineered fabrics and films. I'm not alone this morning and with Maude Portigliatti, our Executive Vice President in charge of high-tech material, and we will together share with you some slides before moving to the Q&A session. So maybe some words about the transaction. So first me and Maude will enter into the details but Flex Composite Group, FCG at a glance is a company -- it's a European-based company, mostly located in Belgium and Italy. It is an European leader in high-tech engineered fabrics and films. It's 2022 revenue where at EUR 202 million with an EBITDA margin over the past year was between 25% to 30%. And it has -- it's a company that has constantly grew organically by a compounded average growth of 11% over the past 7 years. The transaction is at an enterprise value of EUR 700 million. We are expecting EUR 21 million of annual run rate EBIT synergies by the 5th year and it's a transaction, which post synergy can be considered as a multiple of 9x EBITDA. This transaction will be accretive for Michelin high-tech material revenue team. So it will grew the size of this business by 20% in line with our 2030 ambition. It is relative in terms of growth, in terms of EBIT margin and in terms of earnings per share from the year 1 and of course, this company will positively contribute to the cash generation of the group. We are going to finance this operation 100% through the cash available and it has a very limited impact on our group leverage as our post-transaction gearing, if we look at the gearing at the 1st of January 2023, will be just increasing by 4 points. We are expecting to close the deal by the end of the third quarter, subject to closuring adjustment and merger control clearance in different jurisdictions. I'm now going to hand the floor to Maude, who is going to present to you, FCG and the synergies we are expecting to generate from this deal.

Good morning, everyone. Let me describe a little bit more of this target. So Flexible Composite Group is an European leader in engineered fabrics and films, active in 3 main product categories adjacent to Michelin activities. First, resin impregnated fabrics through the brands Angeloni and Selcom. These activities represent 50% of the total revenue and are mainly based in North Italia. Second, flexible coated fabric through the brand Orca based in Belgium and representing 29% of the revenues; and third, technical skills and membranes through the brand Faitplast located in Brescia Italia and representing 21% of the revenues. FCG has 400 employees and more than 2,000 customers. As shared by Yves in 2022, the company reported EUR 202 million of gross sales. And over the period 2015-2022, FCG has demonstrated a high compounded annual growth rate of 11% and has generated an EBITDA margin higher than 25%. Let me now share some projects of the company. So FCG operates in fast-growing markets with strong demand dynamics and high-end customers. FCG serves the marine professional and leisure markets, which are expected at a high single-digit growth. Thanks to the dynamics of the rigid inflatable boats, recreational boats, yacht and subclass sailboats. Let's have an example of customers [indiscernible] for example. The division in Germany specialized in carbon fabrics and technical composites delivered its products to sports cars, supercars and electric vehicles. Those markets should enjoy a double-digit growth rate based on the rapid electrification of the automotive sector and of the dynamics of sport cars. FCG is a recognized player in technical thermoplastic films for niche applications, such as technical apparel, requiring inter-mobility and breathability. Outdoor leisures and extreme sports are developing at a fast pace. And as a last example, FCG is developing its activities in impregnated fabrics for construction. The demand for technical material is growing fast in this sector, subject to demanding green regulation, especially in Europe. So now about the synergies. FCG projects, materials and processes are adjacent to those already mastered by Michelin so that we will be able to unlock deep innovation synergy. High-tech engineered fabrics and films range from a thin layer of polymer-based materials to a more heavy metric coated on fabric. Those projects can be very flexible or ready from a monolayer film to combine multilayers. They are designed to meet demanding technical multi-functionality like trends, lightness, inter-mobility, breathability, puncture resistance. FCG and Michelin will combine the innovation abilities in those domains from research to applications development. To complement the deep market knowledge of FCG, Michelin will bring its extensive worldwide manufacturing expertise, its unique know-how in performance simulation and its leadership in sustainable materials. Those synergies will enable the creation of a leader in engineering fabrics and films in our high-tech materials division alongside with our existing businesses in sealing, belting and engineered polymers. We estimate the synergies at a run-rate EBIT value of EUR 21 million on year 5. There will be mainly driven by the product mix enrichment as I just described and the geographical expansion eased by Michelin footprint. We will also leverage Michelin market access in Defense, Aeronautics and high-end Automotive while developing cross-selling opportunities. Cost synergies will be based on economies of scale in purchasing.

So maybe to come back and take a little bit step back. Looking first at the Michelin history in high-tech materials. It started with the acquisition of Fenner in 2018 -- in May 2018. And looking at what has happened with Fenner, you see that in 2018, the Fenner businesses, if we accept Solesis, which was a medical division that was in the meantime, brought in a joint venture with Altaris was at that time generating EUR 800 million of sales. By 2022, it has generated EUR 1.1 billion, which is a compounded average growth of 8.3%. If we take in account that the year of 2020 was impacted by the COVID. So if we look at we had 3 years, it's an average growth of 11%. So FCG will complement this business, which will represent EUR 1.3 billion in total sales, if we look at 2022 pro-forma data. And it will increase the share of our high-tech material revenue within the group from 4% to 5%. In the complementing what Maude just explained you about the synergies, FCG is mostly a European company with a marginal commercial presence in the Americas and Asia Pacific. So it will benefit from the strong Michelin presence including in high-tech material in those areas. Actually, we are mostly present in North America through our high-tech material activities. And I would like also to comment on the quality of the assets, the quality of the team of FCG, which will allow us to create the synergy, the company by itself as a fast-growing pace, it will be margin-accretive for the group and for the specialty segment. And it will, of course, improve also the cash conversion of the group as it's a company, which is spending generally 3% to 4% of its revenue in CapEx. And of course, it's earnings per share equity from the day 1. So that acquisition is fitting completely in the strategy that we have shared with you since 2021. It's enhancing our strategy and our business model, which continues to have people, profit and planet performance at the heart of our success. We will offer to FCG employees more career opportunities. Actually, we'll probably bring part of our existing high-tech material coated fabric businesses within FCG to put them in North America, to allow them to have a foot in North America. We have a leadership model that puts people, teams and empowerment at the center of our mindset. And we believe that FCG being very centralized agile company, they will benefit from the Michelin [indiscernible] in this area. We will further enhance the skill management. And of course, FCG will be integrated in our group ambitions in terms of employee engagement and employee safety. Profit-wise, we already mentioned it. The deal is accretive for all the KPIs, why the group financial position will remain strong post acquisition. Of course, the post acquisition will occur at the end of 2023. So basically, we should expect to have exactly the same gearing at the end of 2023, given the size of this acquisition. And in terms of planet, you know that we have committed not only to reduce our CO2 emissions, but also to completely reshape the structure of the materials that we are using. So FCG will benefit from Michelin R&D to generate, to discover and develop the new generation of materials to increase the bio-sourced and recycled materials particularly in resins, blues and reinforcements and of course, to -- from our comprehensive approach to reduce the volatile organic components, emissions and solvent usage in the coating processes. So key takeaways. It's a deal that is creating the leader in high-tech engineering fabrics and films, enhancing the Michelin High-Tech material revenue up to 20%. It's an important step for us to develop Michelin beyond mobility in line with the strategy that we shared with you and with the ambition to position the Group as a key player in polymer composite solutions. It's unlocking deep innovation synergies in a broad range of products and applications, diversify the group exposure to different applications and end markets. It's a deal that is, again, accretive from our growth profile standpoint, EBIT-margin percentage and of course, in value, including for the specialty segment and positive cash generation in EPS. And it's a deal that is totally affordable for the group given our strong financial position. And so of course, we'll have to wait the [indiscernible] we will be very happy to welcome the 400 employees of FCG within the group in a couple of months -- in a few months. Thank you for your attention. So I suggest that we move to the Q&A session.

[Operator Instructions] The first question is from Thomas Besson of Kepler Chevreaux.

I have 1 question on the deal and 1 question on the M&A strategy, please. Firstly, could you discuss the visibility of FCG's revenue profile? Does it have an order intake that effectively ensure the future revenue growth. The suggestion you make on the different businesses, implicity so just more like high single-digit organic growth and the double-digit organic growth that has been reported over the last 7 years. Second question. Shall we assume that it is still the plan for management to spend between EUR 5 billion and EUR 10 billion on different acquisitions as it's been suggested in various occasions at your CMD or in press articles recently over the decade, EUR 5 billion to EUR 10 billion to reach your M&A ambitions that have been unveiled in April '21. And that -- within that time frame, you would still aim to at least maintain dividend and reach your minimum return on capital employed target.

Okay. Thank you, Thomas. I will let Maude answer to the first question and I will take the second one.

Yes. So yes, the business now we have for FCG is very promising. We see decrease, so we think we are able to sustain a CAGR around 8% to 10% for the coming years and maintaining the EBITDA margin above 25% or at 27%. So the business plan is totally in line with the past results. And as shared by Yves, very positive for High-Tech Materials division results.

Okay. So regarding your second question, I can confirm you that we intend to allocate around EUR 5 billion to EUR 10 billion to acquisition within the decade to reach our 20% to 30% non-tire sales divisions. And these figures has been commensurate due from 2 standpoints. The first one is that given the intrinsic growth -- organic growth of these businesses, we know and, of course, the multiple and the value of these businesses. We know that it's approximately the sum, it's between EUR 5 billion to EUR 10 billion that we need to spend to reach at least 20% -- by 20% of our global sales by 2030. And second, we have always said that we want to keep a sound and robust financial rating. We are currently A minus. We can accept to be downgraded 1 notch and we know that it's a kind of range within which we can either probably at EUR 5 billion will be -- we'll keep our current rating, let's say, above 7 or 8 will be degraded by 1 notch. So that's the reason. And to finish my answer, we intend to keep our dividend policy, which is aiming to increase the payout ratio gradually towards 50% in the coming years. So that's totally consistent with our capital allocation strategy. And sorry, and of course, you asked me the question about the return on capital employed. We might have if we were doing a larger acquisition in 1 year, let's say, an impact on the ROCE, but we are looking to the 10.5% at the threshold maybe the year of the acquisition, it might not be possible, but we should come back very quickly to at least 10.5% of ROCE. It depends of a larger deal.

The next question comes from Ross MacDonald of Morgan Stanley.

It's Ross at Morgan Stanley. Congratulations on the transaction. I guess the first question from me it would be good or helpful to understand the cash flow impact from this transaction net of the TBC asset disposal from late May. I haven't seen a figure on the proceeds from that deal. So perhaps you can comment on the net cash impact in the first half. And then linked to that, whether you feel that asset disposals on the retail side are now finished. And then a second question linked to Thomas' question, is the integration of this FCG deal, now the key strategic focus for management for the remainder of this year or are you focused on further beyond tire M&A in 2023, perhaps something larger?

Okay. So thank you, Ross. First, the cash flow impact will be a cash out of roughly EUR 700 million. It's the enterprise value. So it will be a mix of equity. And of course, we'll take out the debt -- the current debt of FCG. By the way, we'll refinance it probably at a better condition than its current condition. Regarding the TBC asset disposal, so the deal has been approved by the articles authority in the States. It's a deal, which was slightly above EUR 500 million and one of the impact for us on the first half of the year is that we have received, let's say, an exceptional dividend from TBC, which is slightly below EUR 200 million, which is, of course, share of 50-50 with our -- so EUR 200 million is for us and another EUR 200 million for the -- for our partner [indiscernible]. So the integration is the key strategic focus mostly for -- and that's why I'm with Maude this morning for our High-Tech Materials division and for our research and development team. As you have seen, we know that probably 70% to 80% of the synergies are revenue synergies, and we will organize ourselves in order to support the FCG in order to extract these synergies as soon as possible. In parallel, we are constantly looking at opportunities in the market in High-Tech Material, but maybe also in the other division, which is aiming to go, which is our [indiscernible] activity, which is the Michelin connected fleet division.

[Operator Instructions] The next question is from Steve Fernandes of Societe General.

The first is, could you just remind us what the criteria is to separate your beyond tire businesses into [indiscernible]? And secondly, could you maybe talk about the market share that FCG has in its different product categories and maybe the size of its addressable market?

Okay. So I will take the first question, and we'll let Maude answer the second one. So in fact, the financial accounting rules are the following: providing we have, of course, dedicated organization. We can create a separate reporting segment as soon as an activity represents roughly at least 10% of the group sales. Today with the FCG deal, you see that we are at 5%. So when we reach close to 10% maybe we can do it when we'll be at 8% or 9%, we can create a specific segment. But what I would like to share with you is that, first, we take the opportunity of this deal to give you and to the -- we take also the opportunity of the 2 different CMD that we have organized in the past 3 years to give you some idea about the size of this business. So that's the first. So today, you see that this business will represent pro-forma 2022 around EUR 1.1 billion. Second, this is an activity which represents 90% or 80% of our non-tire businesses. So when you look at our half year EBIT bridge, you have the contribution of our non-tire business to our EBIT. So you can also get -- so we are already providing information. So you can get an idea of the contribution of this activity. If you look at the 3 past semesters reporting, you will see that this entire activity for which MHT represents roughly 80% is positively contributing to its relative for the group EBIT.

Now regarding the market share, I think you understood that FCG is exposed to very, very diverse branch of market, automotive to marine, medical, construction and so on. So in all those areas, I would say, they are targeting very specialized niches and then they have, I would say, a few percent of market share. And now if you view on very specific end market, let's take as an example, coated fabrics for rigid inflatable boat, Orca has more than 60% of these markets and if you zoom on the market of the carbon loop composite for high-end cars, we are around 40% of the market share. So this is really the strategy of FCG being exposed to a very, very, very broad and diverse market, but targeting in niches in those markets with -- for those 1 year market share.

Next question.

Mr. Chapot, this time, there are no questions registered, sir. Actually, excuse me, sorry to interrupt you sir. So we do have a question registered from Martino de Ambroggi of Equita.

You mentioned the amount of sales for this non-tire division. Could you remind us what is the profitability pro-forma for this year? And maybe looking forward, will this business stay inside Michelin or maybe 1 day, maybe within 5 years' time, could be separated or will stay forever inside Michelin?

Okay. So I will start by the first part of your question. The MHT profitability is in line with our SR3 profitability. So when you look at the SR3, it's -- I mean, MHT is globally consistent. So in average, it's [indiscernible] SR3 profitability. It has been rather relative for SR3, for example, 2 years ago. Now with the mining business coming back at, let's say, standard profitability it's pretty in line with -- it is very consistent with SR3. If we are acquiring these businesses, it's not to separate them because we consider that very, very in-depth -- in depth synergies coming from our mastering of the materials, our ability to assemble these materials together, and we consider that Michelin through its very strong knowledge of the materials will be able to enhance the performance of these companies. And it has already translated in some very concrete examples that were shared by Maude during our last CMD with some of the Fenner division. Then, of course, is what we did for the medical businesses of Fenner. We are open to deal that has helped first to help this company to grow faster. That's why we brought synergies to a joint venture with Altaris and of course, to crystallize the value of these companies. So to give you although they will stay within the Michelin Group to give you a better vision of their performance. Of course, as soon as the [indiscernible] will be created, it will be even easier for us but to come back on the question because I understand the underlying question about the multiples. We are -- the methods we are using to valorize this company is a discounted cash flow approach. And looking at the cash generation of the company, which is generating 27%, 28% of EBITDA with 3% to 4% of CapEx on sales. The cash generating, the cash profile is extremely strong. It's a company with a very strong management, good management, externally diversified base of customers. So it's an asset of extremely good quality.

The next question is from Christoph Laskawi of Deutsche Bank.

Just one on the Americas expansion for FCG. Could you comment on the market structure there? Is it a very competitive market likely is in Europe? Or is it easier to penetrate? And then from the EBIT synergies perspective, do you expect costs for entering that market or broadening the reach there and gaining share, so that the EBIT synergy target is more back-end weighted towards year 5? Or should we expect more linear progression of that?

So thank you, Christoph, for your question. So first, we already present in the North American market through one of the Fenner division and through a small bolt-on that we did in 2020 in California, it's a company, which is called Fabri Cote and which is partially working, for example, for the aerospace, working with Boeing, Airbus, and so very strong market expositions. So we have already the market access in North America and we'll probably in the Board share with you the organizational structure of our division. We will create a business line around FCG that will include these activities that are existing already in North America. So competitive barriers are mostly linked to -- and that's the characteristic of the company that we acquired in this sector to a very deep intimacy with its customers because these companies are not in, let's say, commodity segment. They are building customized solutions for their customers. So in fact, the characteristic of these businesses is a very strong intimacy with these customers and that's the kind of profile we are looking for. We have already a base in North America and we intend to grow it with FCG now. Is there a next question?

The next question is from Sanjay Bhagwani of Citi Group.

And sorry if you already answered this. I joined in a few minutes late. So my first question is on the enterprise value. Could you maybe provide some split of what the debt at FCG is? And second question is when we look at this deal being EPS accretive from year 1. So can you please maybe explain some underlying assumptions behind that? This is just simply because the EBITDA margin accretion or there are any other assumptions regarding synergies being realized in year 1 or any financing cost benefits or anything like that? That's very helpful.

Okay. So I understood the first question was related to the debt. The enterprise value is EUR 700 million and there is -- so it includes the equity that we are going to pay to the existing shareholders and the debt that is already inside the company, which, if I remember well, around EUR 150 million. And of course, I mentioned previously, FCG, we will refinance this debt and we will, of course, it will improve the net result, the net contribution of FCG as Michelin has a very strong rating and good financial conditions. The earnings per share will be accreditive relative from year 1. If we look just at 2022, it brings EUR 0.05 per share to Michelin earnings per share. And the synergies, we indicate the run rate synergies for the 5th year, which would amount to EUR 21 million and we of course, it will be a gradual ramp up over all these years. And we will, for sure, follow these synergies very closely and we'll keep you posted during the next financial publications.

The next question from Pierre Quemener of Stifel.

[Interpreted] In the slide deck, you have shared the size of the High-Tech business, which was pro-forma '22, EUR 1.3 billion, including the planned acquisition of FCG. I've got 2 follow-up questions on that one. Could we have an idea of the size of your around tire business, connectivity and telematics? And second, in the future, will the connectivity business remain in the segment -- reporting segment? Or could it become part of the future SR4 segment?

Okay. Thank you, Pierre. I think during the last CMD, Lorraine Frega as indicated that the Michelin Connected fleet businesses or Telematics businesses is roughly accounting for around EUR 300 million sales. And it will be -- it will remain mostly in the SR2. In fact, reallocate these businesses as well as we are allocating for example, distribution to the different proportionally to the different market category they are serving. As this emission connected fleet is mostly addressing urban and long distance transportation segments, it's totally normal to allocate it to this business segment.

At this time, there are no questions registered.

Okay. So if there is no question ladies and gentlemen, thank you very much for your attention and for being with us on the Monday morning at 8 a.m. in France and 7 a.m. in London. So thank you, thank you very much. And of course, we are very pleased to have the opportunity to share with you. Again, we are very pleased to welcome FCG employees in a couple of months within the group. And we will, for sure, have another opportunity to exchange at the end of July when we share with you our first half performance. Thank you very much. Have a nice week. Bye-bye.

Thank you. Have a good day.

Ladies and gentlemen, this concludes today's Michelin conference call. Thank you for your participation. You may now disconnect. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]