REACT Group PLC (REAT) Earnings Call Transcript & Summary

We are here to hear from REACT Group plc. They announced their results this morning. I hope some of you have had an opportunity to look at our notes and our forecast, which we have published. And then today, there will be an opportunity to hear from the management team, go through the presentation and then take Q&A at the end. Please feel free to submit questions as we go along. Otherwise, I'm going to hand over to the management team to take you through the presentation. Over to you, I think, a lot brief here as well.

Yes. [indiscernible] I'm Mark Braund, I'm the Chairman. I am looking at my colleague to join us any second. They're currently sit in the middle of London doing some of the meetings with our institutional supporters. Unfortunately, [indiscernible]. So hence, we're in 2 locations. Lots is actually the office of our brokers at singers in London. Anyway, they joined us now, Shaun Doak, Andrea Pankhurst, going to let Shaun take the lead.

Thanks, Mark. I guess we'll start with quick intros. Andrea, you can go first.

Okay. Thank you. So I'm Andrea Pankhurst, I'm a charged accountant. I originally qualified as one of the large firms. I think with REACT at beginning of 2019. And my career history up until now has been very much in the SME sector, focusing on systems and control improvements and hopefully making businesses more efficient and more transparent in their reporting.

Thanks, Andrea. So I'm Shaun Doak, I'm the Chief Exec, John the business back in March 2019. I've got a track record of working for blue chips in the specialist cleaning FM and the HVAC sectors. My background is sales and got of business management degree. So I'm very much kind of hands on with the sales and marketing side and build out the operations on the health and safety function. Over to you, Mark.

Thank you. I'll be very brief. I'm the chair. I got involved with this company just over 4 years ago when it was very small and in a lot of trouble. It was instrumental in hiring Shaun and Andrea who've done basically all the heavy lifting. They've done the hard work to get the business to where it is right now. And hopefully, we'll tell you about our latest period on the next few slides. So back to you, Shaun.

Yes. [indiscernible], please... Okay. So I'll give you an overview of where we are and what we do here the REACT room. So in essence, the business is split into 2 parts. We've got the regular daily cleaning as one element. And the second part is the emergency cleaning. So Reactive Maintenance, which I'll touch on a little bit and some high work. So we've got 3 businesses that were in the group. The first one is our recent acquisition, which we completed just over a year ago of LaddersFree. So they're the leader in the commercial window in a clean space in the U.K. Typically, the work that is carried out is on a commitment from the customer from 12 to 36 months. 100% of that business is what we call contract maintenance. So it's reoccurring revenue, which is very much aligned to the strategy that we set out when we all got involved in the business back in 2019. And they operate nationwide and in Ireland. A fantastic business. It's been a great acquisition. The integration has gone incredibly well. Next, we've got Fidelis, which was our maiden acquisition, which we completed just over 2 years ago. 85% of that business is, again, retail in revenue. So similar to LaddersFree. We're on site all year around doing the daily cleaning and the typical kind of commitment from the customer is anything from 3 to 7 years. 15% of that were -- that comes on the revenue that comes out of the Fidelis business is either a Reactive Contract. So it's when we are working against a schedule of rates. So we're typically 1 of 1 as a provider, but it could be carrying out a spillage on a carpet or a high-level clean some ballast rates or something we're working through a schedule of rates. And then last but not least, we've got the REACT versus cleaning, which as the name suggests, we're set up to deal with the emergency and Reactive decontaminations. Out 46% of that business just for a click is contract maintenance. So we've got a number of service stations in the Southwest of England, where we're doing the daily cleans. We've got a number of contracts within the rail where we're doing the -- what they call periodic heavy clean. So it's a deep clean of the internal ambience carriages both on a day time and an evening. And then we've got some prestigious health care, NHS sites, dotted around London and around the M25 [indiscernible]. So that's the business is, in essence, just on the Reactive side, sorry. We've also got contracts we active and ad hoc, which I'll cover a little bit later. So in essence, as I said earlier, our strategy has been focused on building out the long-term contracted business, both organically and through the M&A. We've proven that we've done 2 very good pieces of M&A. The businesses are very, very good and very stable and a move in the right trajectory, which is brilliant. We've grown quite aggressively organically year-on-year. We've never had a year where we've fallen below 17% organic growth. The industry or the specialist market that we operate in is large. It's highly fragmented, but we're capable of delivering anywhere in the U.K. sometimes within 2 to 4 hours. And I think it's important to stress that there's a lot of players within this market. It's a large market but there's no one like us who can do anything to do with cleaning. There's a lot of players in the market, smaller businesses, you might just concentrate on oil tilted contaminations, they might just concentrate on high-level decontaminations whereas anything cleaner we can do it, whether it's dairy cleans or anything you merge. So yes, so that basically underpins our strategy. We're focused on building a fivefold increase in value over the next 3 to 5 years. Moving on, please, Hannah. Okay. So just looking at customers. I'm not worrying too much here. We've got just a number of levels there. Some we've worked with for many, many years, some of them are new logo wins. We got over 1,000 customers now. We clearly operate within a diverse and resilient range of market sectors, a number of blue chips, a number of large FM providers. And on the top 10 equates to less than 44% of our revenue. So I think that's a really key metric just human there for you guys. I think you [indiscernible] I'm going to pass you over to Andrea, who will give you an overview of the interim accounts.

Okay. Thanks, Shaun. So for our first half of our FY '23, we are reporting already significant uplift in our revenue and our gross profit. So firstly, our revenue, it's up 82% year-on-year. And that is underpinned by organic growth in all the companies. REACT and Fidelis have growth grown significantly year-on-year. And then the other factor is the acquisition of LaddersFree, which wasn't here this time last year but is now in these figures. Our gross profit similarly is showing a really impressive uplift from last year. It's up by 113% and our margin is up 410 basis points. Again, the underlying -- the organic growth in both the existing and 2 companies, REACT and Fidelis and then adding in the LaddersFree into the mix as well, has helped boost that figure. Our other achievement that has been said today, and which Shaun referred to earlier, is increasing our level of recurring revenue. Our goal was to get it up to [indiscernible], and we've achieved that in this first half. We also have a very strong cash conversion. We are often being paid by our customers before we're paying out to our suppliers. So that's a very good model for our cash flow. And then finally, just to say on our EBITDA, the increased margin is falling down into our EBITDA. And again, it's really increasingly only fivefold since this time last year. Hannah, could we move on to the next slide, please? Thank you. Okay. So just in terms of the different segments that we measure our performance against our contract maintenance, there's a very -- it's more than doubled since last year. And again, as I referred to that is partly due to the excellent performance of the 2 existing companies and then the element of LaddersFree coming on board. As Shaun mentioned, all of the LaddersFree business is contract maintenance in nature. The change in margin is to do with the mix of the 3 companies together now. LaddersFree in particular, is higher-margin business than the other 2. So the impact of that coming in as well as a focus on improving our margins within the existing 2 businesses has contributed to that increase from 16% to 28%. Secondly, the Contract Reactive where we are responding to emergencies very often, and our pricing is within a framework agreement with our customers. This has increased with Fidelis doing more of that contract reactor than they previously did. And again, just general growth across those 2 companies REACT and Fidelis -- our margins are slightly lower. That's partly to do with the way we've resourced some of this work and it's going to be one of our focuses coming up to see what we can do to bring that back to higher levels. Finally, our ad hoc. So we've had some good growth here again. I might just ask Shaun to say a bit more about the big change in the margin on that type of work.

Yes, thanks. So yes, the reason that you know that H1 2022 was 38%, so it's gone down. In H1 2022, there was still the tail end of quarter decontamination, which we've said previously, were very, very high margin just due to the nature of the beast that we had to respond within 2 hours sometimes even less. So that's part one of the reasons. The second reason is, as we've said previous, we didn't want to continue building out our operator's base because it's difficult to have upstart on the bench where it's inferred for that kind of work. So what we did, we've actually just taken stock, kept the operative in play, but we've built out lots of contracts partnerships, which we set up very, very early on in our tenure here. And we allowed them to help the some back work with use of our own operatives. And also in that mix, we had a large contract win in H1 [indiscernible] GBP 200. Some of that was carried out using our subcontract partners as well. It was a larger piece of work. So as you know, large piece work, we tend to have to look at the margins. And that's the rationale behind that.

Thanks, Shaun. So just in summary, really, on the results we've published today by demonstrating [indiscernible] that's made up of both organic growth and our M&A since last year. We can demonstrate increased recurring revenues, which are really important to us, high margins overall and improvement in our quality of earnings. So we move on to the next slide. Thanks, Hannah.

Thanks, Andrea. So just looking at the group outlook. We've got a very strong start to the year, and that's continued into H2. Actually, I touched on it earlier in the presentation, the group was awarded a multiyear contracts. The value of that was GBP 800,000 a year. It was for a prestigious high street fast food chain, over 320 sites across the U.K. And that's just an isolated example of what we can do on the cross-selling. That relationship actually started through LaddersFree. And that contract involves the LaddersFree business evolve Fidelis business and the REACT business. It was front-of-house deeply, flows, walls, ceiling, tiles and also internal and external glens and in some instances, also clavicle on external of the buildings. So that's just an example of what we've done well. We had some challenges in Fidelis earlier on in the year. And that was simply because we've doubled the revenue since we completed the acquisition 2 years ago. The run rate of that business now is run at 9.5%, a little bit more. And it was just a bit of an inflection by broadband. We got to a point where we need to just to refocus and just evolve and tweak the processes and the procedures and put the right control mechanisms in place just to squeeze the lemon a little bit and actually focus on profit. We've had some fantastic wins, I'm not going to go through all of them. Wins both in the education and the NHS trusts, and we've had some really good contract renewals. So really, really strong business. Things are going 5-allcylinders there, which brilliant. And LaddersFree continues on the material contribution, fantastic set of people, right values, the right culture very much aligned to the rest of the group. Really exciting business and revenues, profit and cash conversion continued strongly since we completed the acquisition. So in essence, the momentum has continued really well into H2, and that would depend as our confidence in meeting our market expectations. Just moving on to your strategy, please, Hannah, thank you. So I touched on strategy, I think, early on in the presentation, I've discussed it a few times today, so apologies for having. And that is just to continuously improve the shareholder value. We've ultimately built it on 4 key pillars. The first one is scale through organic growth and selected acquisitions. We've done 2 very successful acquisitions now. I said earlier, we've doubled the revenue of Fidelis. And have gone incredibly well at LaddersFree. We've grown aggressively year-on-year organically. We've never fallen short of 17% organic growth in a year. The second one is we want to strengthen, and we have strengthened relationships with customers, we cross-sold, I've just touched on the fast food share in there, just one example of what we can do and what we will continue to do moving forward. We said we focus on markets where we had clear differentiation and access to high margins. There is internally a refocus on margins. We're running around by 27% now across 3 businesses. We believe that we can squeeze the lemon a little bit more just to [indiscernible] 1% or 2%, and that's where our focus is. And we've got the suite of offering across the 3 groups. It's completely different to what's out there in the market. And the fourth pillar is that we are going to continue to strengthen the recurring revenue streams through that incremental long-term contracts. I think we touched on it earlier. We've got a recurring revenue for the rate now we're in excess of 85%. So that was very much a key driver of very, very early in spectator our strategy, and it gives us a great foundation to continue the growth of the business. So just moving on to shareholders. I'm not going to go through every single one of them individually, but clearly, for a company of our size, we've got a very strong and growing shareholder base. They're very supportive. We've got a number of institutions, again, who are very supportive, you now sit below the 3% threshold, but there's more to name that are on that list. And it just gives us confidence in continued that growth strategy value. And then in summary, so look, we're the leading specialist in what is a valuable and highly fragmented market. Like I said earlier, our strategy has been focused on building out long-term recurring revenue streams, focus on the high margins and cash conversion. The LaddersFree acquisition was both transformational and earnings in Hansen, and it's made a material contribution to the group's performance. And ultimately, we believe that we're well placed to achieve our 3- to 5-year goal, continue building out scale in both enterprise value and earnings and continue to push the business forward.

Thank you for that helpful canter through the presentation. We have a number of questions so we should press on. Shaun, you started out the presentation by pointing out that your background is in sales. Are there any areas of the business where you need to beef up the sales results?

So we've got a really good sales team as we brought in Chris Ryan, who is now a commercial manager for Dallas around by a year ago, just over a year ago. That was the first step in specialized that. Actually, sorry, July. We actually we actually brought in some here to professionalize that he's now Group Sales Director and then you brought in Chris. I think those 2 people in the business help me deal with the Tier 1s and the larger customers, just building that out. And then we've got a very good and talented sales team that sit within those teams. The only avenue that we're looking to increase and improve is actually -- we're in the process of recruiting the BDMs predominantly and solely within the LaddersFree business, just to help push that growth further.

Okay. This investor considers the ongoing trend towards homeworking, a potential threat. Do you think with possible closure of office space, do you see it as a serious challenge to future company revenues? And if so, how do you plan to diversify away from office-related business?

Good question, but I actually see the converse now and I think people are returning to offices. I'm down London again to the hard busy than it's ever been and I lived down the year when I was at university. There's clearly a lot of people in the offices speaking to our large Tier 1 customers. They encourage in the offices choose it to 3 to when Thursday. So I mean, the office large proportion of the week. If I can ask the question perhaps 2 years broken up COVID, it might have had a different view on it, but not seeing that thing. It's completely flipped on said. There are studies recently that have said that people are more productive being in an office environment but been working for home. So there's definitely a refocus, I think.

No. I see footfall around the city, I would come. With the expected rise in free cash flow and move to profits over the next couple of years, would you be looking to introduce dividends?

That's one for me, I think. Look, we talked about a fivefold increase in value for shareholders over the next 3 to 5 years. We've already demonstrated massive increase in value for shareholders over the last 4 years. So doing it again, I think you know the formula there will be some more acquisitions. We've done 2 in 2 years. They've created a tremendous amount of value for customers. So it's inevitable that we will find another one, but what I can promise is that there will always be earnings enhancing, they will always be accretive, and they will always be strategically and meaningful to what we're doing in terms of trying to achieve our goals. So certainly, there will be some over the next 3 to 5 years, but we're not going to be M&A crazy because we've got a good organic growth strategy. I think that there will be the potential for us to look at dividends as we start to generate cash beyond paying down our final deferred payments to the companies that we bought -- or sorry, the people that we bought companies strong. But it really much depends on where we are at that point in time. So there's an option that we know may be valued by some shareholders, but there's also the option to continue to grow at pace the capital value of the business, and we've got to balance the 2 together.

Okay. Well, you mentioned M&A yourself there, Mark. There will be other opportunities on assumed. But in terms of, let's say, the next 12 months, are you currently looking at M&A opportunities? Or are you still integrating LaddersFree?

So I think that's a great question. The answer comes -- is a bit more complicated. So operationally, the management team is completely focused on driving the organic growth of the business in grain LaddersFree and the cross-sell and upsell come from it and also trying to modernize, should we say some of the in those businesses. I'm the only one that wastes time looking at lifting rocks to see if there's anything interesting sat underneath them. And I'll be honest with you, I've only just begun to return to that process because I've been so focused in terms of trying to support the team and what they've been doing with the LaddersFree acquisition. So we've only just started looking, and it's only me. I've got some help from BDO who helped us find LaddersFree. But there is nothing in the works right at this moment in time. And I think we took a long time trying to find Fidelis. LaddersFree was a bit quicker. There is plenty of opportunity out there, but there's also a romantic notion about what companies are worth during a downtime by some of their founders. So it's about finding the right opportunity. We're not deal hungry. Its right time, right place. And if it works, we'll do it. But right now, there's nothing immediately to hand.

Okay. If we move back to operational matters as a few questions here. Obviously, you've added 2 businesses in the last 2 and a bit years. How far are you down the route of cross-selling?

I think you covered that earlier, and I think...

It's a good message worth iterating Shaun.

Yes. I know that without a doubt... So look, the pipeline -- I've said this all the year, and I sound like a broken record, but the pipeline this year is being healthy and much more healthy than it's ever been in any -- the 4.5 years that we've been involved the business. And a large portion of that is from cross-selling, yes. What we can do in the presentation, we can -- anything to do with clean than we can do with us whether general daily clean or it's the fatality on the rail, we can do it. And I think we are very unique in our offering. We can do on a nationwide basis. So I think when we are engaging with the customers regards whether its start with Fidelis or it started with LaddersFree or converting the way around, but we have a lot to talk about, and the sales team are doing a fantastic job in building out that funnel.

How much the specialist cleaning is now subcontracted out? And how have utilization levels of operatives improved year-on-year, particularly in ad hoc work?

That's a difficult statistic really because we've incorporated LaddersFree now, and all that work is done by members who are not employees of the business -- so with LaddersFree in the mix, it's a significant proportion. So I don't think we got those figures.

No. We've definitely not drilled down on an actual number, but Andrea is quite right. I mean, on the LaddersFree side of the business, we've got over 300 members. So when I said 300, I don't mean 300 guys in a ban, some of these members have got a fleet of 10 ban with 2 operatic in each line. So they're not mom-and-pop shops, they are professional outfits. So it is strictly what we have to do a little deeper dive to understand what that metric looks like, Mark.

I think, it's worth me adding in here, this is very much part and parcel operationally what we're now doing. Now we've got scale. We have run the company. If you look back, if anybody wants to look back at the history of the company, 4 years ago, the company was a GBP 4 million turn over GBP 600,000 loss-making enterprise. So we basically converted ourselves into something that was very fit for purpose to go out and redefine the company, redefine its value, sell and make money and generate cash. We've now got with where we are right now out looking according to our brokers, sort of 20 million of revenue and 2.5 million of profit. We've now got a size and scale of the business where we can afford to make careful investments to allow us to continue that scale. One of those investments is in support of Andrea's team. We have just hired now a financial controller with some great industrial experience. And his job will be to help Andrea and the team start to build out what I would call value metrics, the things that we need to monitor and measure most frequently across the business that will help us eke out the extra 0.5 point or 1 point of profit on the bottom line. We have ambitions to go from just shy of 10% conversion of revenue to profit to getting closer to 15% or 16%. So it's going to be essential that we look at the things that are represented by the question you just asked, but we're not quite there yet, very much -- we've had a fit-for-purpose organization, lean and mean genuinely. There's no fat in this business. And if we're going to introduce any additional muscle that has to be earned and delivered in the right way, and that's what we're doing now.

The progress of margins has been a big message that's come through from this set of results. But what caused gross margins to decline at Contract Reactive and ad hoc year-on-year?

So again, I think I covered it earlier in the presentation, there's a few things in play, Hannah. Like I said, you came out of Cowen. We were still doing COVD-19 cons in 2022 in H1. We don't have them anymore as they were very high margin just due to the nature of the work and how quick we needed to respond. Sometimes we were on site within 1 to 2 hours. You've got the use of subcontract partners in the mix there for the live piece to work and the reason that we did that, as I said earlier, was that we didn't want to have a pool of operative we just sat there kind of cost to us were for this work to come in. So what you need to remember is the ad hoc, although it's obviously a very important piece of the puzzle because it's often kind of sharp end of the speed gets us in with customers. We're often reacting to an emergency requirement. So we're there very quickly, we compress. And then from that, our sales and marketing approach is kind of a very consultative approach. So then we'll look out, okay, what else can we do? Can we add in some Contract Reactive? Can we do some daily claims of contract maintenance? And there's an isolate or care just undermined of one customer, and I need to be careful not to mention because I'm sort of used to mention them, but they're in the rail sector. They started with that market was a graffiti claim some of 4.5 years ago and then that led on to Contract Reactive. We were doing the fatalities. And then now we're also doing contract maintenance for them as well. So we've given the whole suite of services.

I'd like to just add something here because we talk about subcontracting and people think, okay, you're just subbing out the problem. The expertise that's needed to deal with a number of the things that we deal with as a company sits within the company. What we're doing is getting people with the relevant skills and building out a program of work that will get that work completed. It's not just a matter of saying, here's a problem go throw it over the fence to somebody go fix. There's a fair degree of expertise and resource that goes into it. And when we look at our margins, it's not the net margin -- sorry, it's not the net gross margin of what was the cost of sales. We actually do add in some of that management expertise that is applied. But what Shaun just said that I want to reinforce -- this is not recurring revenue, but it is so important to building our relationship with customers. The example Shaun's just giving you is typical throughout our company, and it allows us to -- because of our expertise, to talk with puts well above our weight, shall we say, like we did during COVID and engagement companies much higher at the food chain and as a result, benefit from that relationship through selling them our stable of offerings.

Can you get in a little more detail around the investment required into LaddersFree, sort of how much and where it will be targeted?

Again, if you don't mind, I'll take that at the top because operationally, there is work being done right now that Andrea and Shaun will work on. But effectively, what you have is a great business, and we expressed this when we've done previous presentations and broadcast. We bought a brilliant business, run -- sorry, started and built by 2 brothers back in the sort of early 2000s, and they spent 21 years building it up. And the financial model that they had was 3 million of revenue, generating gross profit margins of 50% and operating profit margins of 40% with a very, very low working capital. And they basically took a novel proposition to market at the time. It's now fairly ubiquitous, but very novel assign. And they train people to use this approach and basically capture customers. As they progressed, it became a very good solid business but they didn't have our kind of a capability to take that business and sell it much more broadly, but they continue to grow at a relatively modest level, but it was hugely valuable to them. Anyway, the business started just 20 years ago, some of the workflows and processes pretty much that hold. It's what I would call an analog process. They're very, very good, by the way. The processes really work well. But when you want something to robust that can scale to twice, 3x, 4x the size, it would really cause us some challenges in terms of having to resource up that if we were using paper all the time. So digitization is kind of where we want to go. We wanted to spend time looking at those workflows. We've got a change management consultant in that we've worked with before, who is helping us make sure that we understand the right pieces that we should digitize. We've also been speaking to the members and to customers and to the people that work in the business about what would they like to see. And we're now building a picture of how we can actually digitize some of those workflows. We're not at a point yet where we're making the actual investment. But what I would say is that we did exactly the same thing at REACT. And actually, we ended up spending less money on the technology and the resources to run the work process and the workflow than we were previous to making the change. And the investment actually wasn't very high, very little capital investment these days and things like software because largely, you're actually using off-the-shelf products or you're buying in SaaS products. So just to allay any fears we're not talking about some huge capital outlay on some monolithic computer system. We are looking at something that will either be off-the-shelf applications that we stitch together or we might now we've reached the sort of scale that this makes sense. We might look at Microsoft as a platform moving into Dynamics and Business Central and Power BI to run all the processes across the group. And that will have the added advantage of them being very scalable. As we add other businesses, it's very simple to then move them to that model. The decisions are not made. We're in the middle of working through it. Operationally, Andrea and Shaun and their team are completely immersed in this to make sure we get it right. But at the end of the day, we want to get it right. We will look before we leap and the investment will not be some big blot on the balance sheet.

I'm sure investors will be pleased to hear that. Look slightly back to acquisitions, again, then, are there any areas in particular that you'd like to target in the cleaning market?

Sure. I normally answer this, but do you want to -- I mean, basically, the focus is recurring revenue and long-term recurring revenue and businesses that are -- have got better than average margins for their sector. But there's no big hole is there. It's just about growing scale, isn't?

Very much so.

Okay. About the profile of the business then as opposed to the substance.

Yes. And we could do something large or we could do something small. I think we're erring towards at the moment doing sort of more modest sized deals. And if I'm really honest, we think there's an awful long way to go with the model that we just acquired at LaddersFree. That is -- has got so much potential associated with it. We want to make sure we continue to leverage that. But at the same time, we do want to add some further scale of recurring revenue. So yes, our ambitions are relatively modest from the point of view of what we might spend but extremely important for what it might do for the company.

Okay. And perhaps a final one for you, Andrea. When you finished paying for your previous 2 acquisitions in terms of the deferred consideration, what will underlying cash generation be thereafter?

Yes. So I'll just highlight that in this half year, we've paid out 940,000 towards the deferred consideration. So that's come out of our own cash and borrowing reserves the existing ones. We have taken on any new debt with that. In the next half year, we have a smallish amount to pay out on the Fidelis deal. So our cash position at the end of this year is going to be more positive than it is now. We've got some more payments going out during FY '24. And those will end in June 2024. And then our foreseeing that what we're earning in our beta was very closely match what is seen in our movement in our cash balance...

Well, and I'll probably take the moment as well to remind everyone, you can see forecasts that we've put into the market on future cash flow as well. Well, that is it for questions. So that just leaves me to thank the 3 of you for presenting today our audience for joining us and for their questions and say that we look forward to hearing a further update in 6 months' time.

Thank you.

Thank you, Hannah.

Thank you very much.

Thanks all. Bye-bye.