Semperit Aktiengesellschaft Holding (SEM) Earnings Call Transcript & Summary

Good afternoon, ladies and gentlemen, and welcome from Vienna to our results presentation for the first half of 2021. With me in the call today is our CFO, Petra Preining, who has settled in very well since her arrival in May, and I'm very happy to have her as a fellow Board member, again at Semperit, during this exciting phase. Before the 2 of us present the results of the Semperit Group in detail, I want to state that we have had an extraordinarily successful half year despite a persistently difficult environment. I'm therefore very delighted to be able to present the best results since the beginning of the new millennium. We have every right to be proud of these numbers. And our thanks go out to all my colleagues who made this performance possible. So let me start with the operational and strategic highlights during the first half of 2021 on Slide 3. Our record group sales and earnings were based on the most outstanding operational performance, at least of the 21st century. This was largely facilitated through the corona-driven demand for medical and surgical gloves and together with our previous restructuring efforts, and we were in a position to reap all the benefits from our operational excellence program. This has made us a more agile, resilient and dynamic company and enabled us to visibly shift into growth mode. In terms of our 2 division sectors, Industrial was able to grow its order book and managed to withstand inflationary price pressure and supply chain constraints. In turn, Medical had achieved its price plateau towards the end of the first quarter of 2021, as we had reported in May, but we could still benefit from above pre-corona sales prices. At the same time, the order books for the full year 2022 are almost completely filled. On the back of these record results, we are now in a very strong cash generation position, which provides us not only with optionality for strategic M&A but also a step-up in organic growth investments. I will elaborate in greater detail on both growth pillars towards the end of our presentation. At this stage, suffice to say that we can confirm our 2021 outlook for EBITDA at roughly EUR 395 million, and this despite all the inflationary and logistical headwinds that we will explain later in our operational update. The next slide shows the headline numbers for revenue and EBITDA whereby, as mentioned at the beginning, we have the privilege of reporting not only the best quarter but also the best first half of the new millennium. Although most of the top line growth continued to be driven by the Medical Sector due to the pandemic, the economic recovery in the Industrial Sector should also be highlighted with an EBITDA contribution of EUR 41 million despite an extremely difficult supply chain situation. This helped us to achieve the 14th consecutive quarter of year-on-year operational group EBITDA improvement. Our performance provides us with the firepower for strong cash generation, implicitly supporting our strategic ambition to grow, among others, through M&A acquisitions for which the target screening process is conducted on a systematic, diligent and global basis. I will give more details at the end of my presentation. But let me clarify right at the beginning that given fairly high asset valuations right now, we apply our strict investment return criteria and, if necessary, walk away from potential deals if they are not earnings accretive and/or value enhancing. Let me now start with the operational update on Slide 6 and focus first on our core Industrial Sector. We have achieved top line growth of 8% year-on-year although, in absolute terms, still not at the same level of the pre-pandemic base year 2019. In turn, EBITDA margins were under pressure but showing growing resilience against the backdrop of inflationary price pressure for raw materials and exuberant prices for transport and logistics. Please note in this context that, for comparison, results in the first 2 quarters in 2019 was still achieved under very favorable macroeconomic conditions, while the Industrial Sector benefited in the second quarter of 2020 from inventory buildup and pent-up demand in sectors like mining, respectively. At this point, you might ask why we don't just simply pass on the cost inflation to our customers. Here, please consider and understand that, on the one hand, prices for input factors kept on soaring. On the other hand, with our products partially being commodities with high price sensitivity, Semperit can only pass on these increases with a certain time lag. To illustrate the current operating environment, we provide some price charts on Slide 7 for 3 indicators for our main input raw materials: butadiene, wire rod and fuel oil. The main point we would like to make here is, first, to begin with, the comparative prices last year were at historically low levels that started to recover in the second half of 2020. Second, the further sharp price increases materialized in a very short period of time, notably since lockdown conditions were relaxed in April, May. And third, prices for raw materials were surging at exponential rates. As we keep internally a very close eye on those developments, let me outline the headwinds we faced from raw materials. If we were to adjust half 1 2021 margins immediately for the impact of higher prices for raw materials, this would imply about 5 percentage points under like-for-like conditions. These are clearly extraordinary external factors we, as management, have to face on a daily basis and which we counteract through measures such as alternative supply chain management and a very proactive pricing policy. Let me now turn to the operational update for each individual segment, starting with Semperflex at Slide 8. Semperflex has been our star performer in the Industrial Sector for some time and, judging by the high level of the order book, it is now on the best way to do so again. Top line growth was up by 16% in Q2 2021. And the EBITDA margin, despite headwinds from raw materials and supply chain constraints, was a very pleasing 23.3%. In Semperflex, we see a clear economic recovery story on the back of positive market sentiment and new price action implemented. Over the page, Sempertrans is in a much more difficult situation, which is mainly due to the market side, including the proximity to the mining industry. The effects of the corona-related limitations in our factories in Poland and India have also had a negative impact. And in addition, Sempertrans faced much higher comparatives during the relevant quarters of 2019 to '20. In the first half of the year, the segment's revenue declined by 17.5% year-on-year and EBITDA by 72.3% year-on-year. However, I am pleased to report positive operating results in absolute terms despite low utilization rates. Going forward, I'm encouraged by the improved order book on the back of growing market demand, which we can see in our current project pipeline. Nevertheless, it is clear to note that among all industrial segments, we, as the management, are paying the most attention to Sempertrans and the efficiency improvement required here. Even from today's perspective, we won't leave any stone untouched. On the next slide, Semperseal has the potential to become another economic recovery story in our industrial portfolio given the sudden surge in demand on the back of tremendous growth in machinery, electronics and chemicals. This has resulted in our order book consistently improving, thereby significantly exceeding the levels of half year 2020. Revenues at Semperseal increased by 25.4% year-on-year. And EBITDA was slightly up by 2.8%, with the segment facing the full brunt of raw materials and logistical headwinds in Q2 2021. As a countermeasure, we have implemented the second price increase for this year and also further keeping a close eye on it, thus also remaining vigilant to get profitability back to previous quarters. Please note that the nature of this business implies a comparatively greater time lag in passing on prices to customers. Finally, at Slide 11, still in the Industrial Sector, Semperform recorded a slight increase in revenue but a decrease in EBITDA year-on-year. On the one hand, this reflected the general price inflation for raw materials and transport. And on the other hand, in this case, also the specifics of the product mix with a currently lower proportion of higher margin business due to restrictions in the skiing industry. Having said that, I'm very pleased to report the order book increasing, exceeding the level of half year 2020 and, more importantly, the outlook for sheave liners and ski foils improving ahead of the new skiing season 2021/2022. I should also emphasize that revenues at handrail and SES, notably in railway, housing and household industries, are above the competitive level of the same period last year, which is very encouraging going forward. Turning the page. The numbers for Sempermed speak probably for themselves, with revenues having more than doubled year-on-year and EBITDA up at almost tenfold. However, when looking at the upper chart, you can see a slowdown in EBITDA and margin growth compared to the very high rates before. This is due to a combination of prices having reached plateau towards the end of Q1 2021 and physical limitations for transport due to bottlenecks in container availability. These developments have resulted in inventory buildup also impacting the operating cash flow in the first half of 2021. Against this backdrop, I should be absolutely clear that we achieved a record operational performance with highly efficient capacity utilization, thanks to our previous cost efficiency and operational optimization effort. At the same time, I'm very encouraged by the continuing strong order book in examination and surgical gloves with the order book also largely booked until the end of 2022. And with this, I'm happy to hand over to Petra to take us through the financials.

Thank you very much, Martin. And now it's a pleasure to explain our financial performance in greater detail. Having already had the privilege of reporting on the first quarter of 2021, I've been actively onboard in the second quarter. And I would like to say that I'm delighted to be back onboard with Semperit in these exciting times. Let me start with a short summary of the financial highlights on Slide 14. While we are truly proud of having achieved record results, it is the new operational resilience, which differentiates the company against its past, especially in times of growing inflationary pressures and ongoing supply chain disruptions. The strong cash generating capacity now provides ample liquidity and cash optionality for future growth. Going forward, we will be precise with our capital allocation priorities, which Martin then will elaborate on in a few minutes. Given our strategic focus on growth, as Martin explained earlier, we have started to increase CapEx compared to the low levels of the first 3 quarters of 2020. In doing so, we are no longer focusing on the maintenance and capacity replacement investments but also on growth investments again. At the same time, I want to reassure you that we continue doing our homework and keep a close eye on working capital as well as active balance sheet management, which require much more attention in times of current market uncertainty. Over the page, we present year-on-year revenue developments by sector, with all segments, except Sempertrans, reporting revenue growth in the Industrial Sector. While Sempermed is still outstanding, both in terms of absolute and percentage revenue contribution, it is particularly worth mentioning that both Semperflex and Semperseal achieved a double-digit growth rate in the first half 2021. Overall, while the 58% increase in top line growth was clearly driven by the Medical Sector, we are extremely encouraged by the 7.6% revenue increase of the Industrial Sector. The Industrial Sector's EUR 268 million turnover may still be somewhat below the level of the pre-corona comparative period in 2019 which, back then, had a very good result, but things are looking up again. This also reflects the positive development of demand and provides a strong foundation to drive our future industrial strategy. When looking at the bridge chart analysis for EBITDA by segment on Slide 16, the 2 main features of our performance become clearer: firstly, top line growth at Sempermed translates directly into operating profit with a highly attractive margin of 56.2%; and secondly, the Industrial Sector is getting increasingly resilient with the promising growth rate at Semperflex and Semperseal, this at the time of massive raw materials and logistic headwinds. The decrease in EBITDA versus 2020 of the Industrial Sector, which is mainly contributable to Sempertrans, was minus EUR 3.5 million. This is a clear improvement when comparing to the negative development at minus EUR 7.9 million from 2019 to 2020. Given the current raw material and logistics headwinds, the management is pleased with the stabilization of the sector. More importantly, the strong business recovery has helped to improve margins at group level, increasing from 13.7% in the first half 2020 to 37.5% in the same period this year. In corporate, among other strategic topics, it should be noted that the result also includes expenses for our ongoing M&A target screening. Turning the page, we present a summary of the key financial indicators over the last 2 years, using first half 2019 essentially as a base period for comparison and putting the exceptional corona-driven surge in operating profit into a broader context. While the dimension of profit improvement becomes particularly clear when looking at margins, both for EBITDA and EBIT, the exceptional growth in earnings after-tax and free cash flow are of huge relevance for us as management to take a strong growth perspective. This is partly reflected in the renewed increase in CapEx, although we are still not quite back at first half 2019 levels. When then looking at CapEx into greater detail on Slide 18, you can see to what extent the step change has already started in Q4 '20, notably through growing investment for capacity replacement at Sempermed. Other industrial segments like Semperseal and Semperflex has received a greater proportion of CapEx in recent quarters with a clear intention to accelerate growth through new product development and the expansion of our geographic footprint. I would like to recall, in this context, our activities in the U.S. where we are about to start a new production site in Q4 but also the acquisition of M&R Dichtungstechnik. For the full year 2021, we expect CapEx to be twice as high compared with the arguably low benchmark year of 2020. On Slide 19, we present free cash flow development between first half 2019 and first half 2021. Operating cash flow increased strongly in the first half of this year. This is largely due to an outstanding operational performance but, it should be emphasized, negatively impacted by working capital requirements. With CapEx investments reaching again almost 2019 level, free cash flow followed essentially the upward trend of the operating cash flow. If adjusted for money market funds investments, free cash flow more than tripled compared to the previous 2 half year periods. Please note that we invested EUR 50 million in money market funds for reason of diversification and risk mitigating. At the same time, the funds we invested are easily accessible and can be withdrawn on daily basis. Over the page, at Slide 20, we show the components of working capital. It is clear that we have made huge efforts for improvement in all 3 elements given the expansion of trade working capital in Q1 2020. So even though our revenues were growing, we were able to reduce both inventories as well as trade receivables, obviously, at an even larger scale. With regard to the specific components, I am particularly pleased about the reduction in inventories against the backdrop of all the headwinds in global supply chain but also trade receivables showing first signs of progress. Given current inflationary pressure, we will keep a close eye on both trade payables and receivables. Despite the overall expansion of trade working capital, we are happy with having returned to 17.5% of revenues in Q2 2021, well below our long-term target. Finally, on balance sheet matters and the financial profile on Slide 21. You will note the strong increase in cash and cash equivalents from EUR 145 million at year-end 2020 to EUR 195 million on 30th of June 2021. If we also consider the money market fund shares, we even reached EUR 245 million. Parallelly, we also have our credit facilities amounting to EUR 90 million unused at our disposal. This not only puts us in the comfortable position of being able to repay on our own the corporate Schuldschein loans that are due in 2021. Calculating with the current FX rate, this will total approximately EUR 84 million, also including the interest to be paid. We also turned cash positive and reached a net cash position of EUR 75 million, including the money market funds. At the same time, we maintain a strong equity ratio, all important prerequisites for inorganic growth. With this, I've come to an end of my presentation. And I hand back to Martin to give you an update on our strategic focus and for his final remarks.

Thank you, Petra. And I'll now start to elaborate on our strategic thoughts by coming back to the original announcement of our industrial rubber strategy in January 2020 as reiterated and shown in March this year again. Back then, we defined the ambition for the group after the separation from the Medical Sector, with our focus on the Industrial Sector of reaching a group-wide EUR 1 billion sales target and an EBITDA margin of more than 13% in the midterm. The key assumption for this target was to achieve a balanced, both in terms of product and geography, and sustainable growth portfolio, which we have thoroughly reviewed in recent months and derived from this to define a clear action plan. For the size of the EUR 1 billion sales ambition, we have determined that, in addition to organic growth, we must also consider strategic M&A based on a multidimensional screening process. Such growth opportunities do not necessarily have to come from black rubber but can move along our value chain or in the sense of customer product differentiation. We are currently in the process of thoroughly analyzing potential acquisition projects in order to accelerate the implementation of our growth strategy for the Industrial Sector. To explain our thinking behind the strategic rationale, let me move to Slide 24 and elaborate on our defined capital allocation priorities. In contrast to what we presented in January 2020, we are now in a much stronger position in terms of top line growth, profitability and cash generation. Hence, our key focus will be on growth and less on safeguarding balance sheet management, as was the case in the past. At the same time, as I said before, we are absolutely aware that our EUR 1 billion sales target is most realistically achievable through inorganic growth. But rest assured that, as I stressed earlier, we will apply strict hurdle rates and not overpay. We have now a team in place to pursue strong organic growth options through selective expansionary investments in existing and adjacent production facilities as well as in our geographic footprint, technology, new products and talent. One good recent example is the expansion of Semperseal's U.S. site. Finally, we firmly believe that our shareholders should actively participate in the success of our company through adequate dividends. We stick to our dividend policy with a payout ratio of around 50% of earnings after-tax, assuming continued successful performance and that no unusual circumstances occur. It is possible to deviate from this payout ratio if financial strength is needed for comprehensive M&A. We, as the Executive Board of Semperit, are fully aware that considering earnings or cash flow multiples, the Semperit share currently appears to be undervalued. Considering our perception of the company's shareholder value, we are carefully evaluating the situation on an ongoing basis. We are convinced that the growth strategy we are upon to pursue will sustainably strengthen Semperit's business and increase shareholder value considerably. Thus, we clearly give preference to long-term value enhancement for all our shareholders over rather short-term value accretive measures such as share buyback programs. Over the next 2 pages, I would like to provide more details on our growth strategy, both inorganic and organic. Starting with inorganic on Slide 25. I have extensively explained the new context for M&A-driven growth before, but I should dwell a minute on our key objectives for strategic M&A. As we had outlined in January 2020, we aim to move the company decisively into the new digital age, focusing on innovation, technology and talent within our core industrial rubber competence. To regain and strengthen our competitive position, we, first and foremost, need critical scale in first place to benefit from global multiplier and scale effects, which can be best achieved through strategic acquisitions. At the same time, we set the clear target of achieving a top 3 market position in each of the entire and new segments. Let me also clarify our strategic and financial criteria for M&A. Starting with the former, within the existing industrial polymers business, we aim at targets adjacent and/or in proximity to the value chain and with sizable synergies. We target innovative sectors with high growth characteristics and focus on companies with a leading market position and/or critical scale. As you know, innovation and technology are high on our agenda, and we aim to achieve global leadership and differentiation through technology in our M&A strategy. Finally, with a predominant exposure to Europe so far, we can only achieve a sustainable growth portfolio through a more balanced regional approach, implying a clear focus on the future growth regions such as North America and Asia. In terms of financial criteria, I want to reiterate that the EUR 1 billion sales target, for the group at least, that implicitly means targeting at least EUR 0.5 billion via M&A, preferably in only 1 or 2 transactions. The M&A target should also come with an EBITDA margin of at least 13% and a ROCE target of above 13%. In the course of our intensive multidimensional target screening, we analyzed initial targets but, after careful consideration, we discarded them again for good reasons. The process is ongoing with vigor. Complementing our M&A efforts, in terms of organic growth, we will invest in our existing segments to strengthen their market positions. Our focus will be on geographical expansion beyond Europe, on the one hand, and on innovation and the digitalization of our product portfolio on the other. Here, I would like to highlight, for example, the market entry of industrial hoses in the growth market of China or our new Semperseal production facility in the U.S. as an example of regional expansion. At Semperform, we are expanding our product offering into railway and construction. And at dedicated OEMs, we are applying advanced sales approaches to expand our market share. On the product side, smart hoses and flame-resistant conveyor belts and sealings are particularly noteworthy. Finally, on Slide 27, we reiterate our full year EBITDA guidance of roughly EUR 395 million, despite all the headwinds from inflationary pressure on raw material prices and transport cost. As you might imagine, the final result of 2021 as well as 2022 will also be strongly depending on the speed of the price reduction in the Medical Sector. Nevertheless, for the time being, we expect, also for 2022, a result that should significantly exceed Semperit's pre-corona leverage. Ladies and gentlemen, let me finish with a personal note. Now that I am 4 years at the helm of Semperit and led the company through very eventful ups and downs, starting with a major restructuring process and then navigating through an unprecedented health care crisis, there is no doubt that the organization is now in a much better shape, not only more profitable and cash generative but also agile, innovative and more dynamic, which supports our strategic effort for gearing up into a new growth mode. We have outlined our inorganic growth ambition while remaining committed to shareholder return and reviewed our portfolio for new organic growth investments. Our previous effort in restructuring the company and improving efficiency have also led us to the conclusion that besides our group-wide target of at least 13%, we should be able and achieve an EBITDA margin of 14% to 16% in average in our industrial segments in the midterm. With this very positive and encouraging note, we have come to the end of our presentation, and Petra and I are now available for your questions. I would like to remind you once again that despite today's strategy update and the focus on M&A, we are not yet in a position to discuss specific details about potential targets and/or takeover attempts at this time. Thank you for your understanding. And over to you, operator, to start with the Q&A.

[Operator Instructions]. The first question is from the line of Markus Remis from RBI.

I'd like to ask them one by one. Firstly, related to the pricing environment you're currently seeing in the glove business, can you provide us with an update about current price deflation in Q3? I'd prefer to have kind of an assessment, especially against the average Q2 level and kind of your assumptions for the further price deflation that is penciled in the EUR 395 million EBITDA guidance.

Yes, thanks for the question. Please understand that we don't disclose on detailed prices because it is still a very competitive market environment. Everything -- I mean the expected price inflations have been put into the system, into our calculation tool that came up with the EUR 395 million guidance. So it should be reflected sufficiently.

Okay. So I'm actually not talking about your realized prices but the price trends on the market.

Well, they're obviously declining and also, depending on the competitive landscape, at different speed. But so far, and as we have done for the last 18 months, I think we navigate quite successfully through this almost daily changing environment.

Absolutely. I just think that it is the most blazing question these days. Especially, since you consider the share undervalued, I think this would be very kind of enlightening to all of us also to assess to which extent this guidance actually looks conservative. But let me come to another point. The Corporate Center had quite a sequential uptick in the second quarter. I understand there were a couple of legal consulting costs, et cetera, digested. Can you help us to get a sense of the run rate, quarterly run rate, in the second half?

Yes. Thank you very much. I'll take this one. As you have rightfully said, Q2 includes some additional onetime costs, which are related to our current M&A target screening. So this will not affect the run rate looking forward. In general, our SG&A progress and exercise we did last year is very fruitful. So we are quite happy with the results.

Okay. So Q3, Q4 back to the EUR 4 million, EUR 5 million run rate of the preceding quarters. Yes, just let me have one more. On the M&A strategy and the industrial margin target midterm, 14% to 16%, I mean that's actually where you are at the moment and where you've been in recent years. And then you have this above 13% EBITDA margin kind of threshold for your M&A. Is that pre or post synergies? This would be interesting to me. And in terms of the kind of integration capacities, EUR 500 million in 1 or 2 transactions, I mean is that kind of adjustable by company given your relative size?

Okay. We'll split the answer. I'll take the first one. Obviously, larger than 13% is just the bandwidth we start. But definitely, we aim then also for synergy effects going forward and on a sustainable cooperation with the targets, which then should also help us to boost the EBITDA margin looking forward.

Yes. And on the second question, can we basically manage 1 or 2 transactions, let's be very clear, we've changed the management team throughout the last 4 years significantly. And as I already mentioned in various interviews, this is the best team I've ever been running. I have no doubt that this team can easily execute 1 or 2 major transactions.

The next question is from the line of Sven Sauer from Kepler Cheuvreux.

Congratulations on the results. Just one question from my side. I read in your report that at the end of the second quarter, the production in Malaysia had to be reduced to 60% due to official governmental requirements. I was just wondering, what's the situation now? Are you back to 100%?

The answer is, yes, we are back to 100%. And the reason was there were limits in moving -- I mean movement control order limitations by the Malaysian government. Because, as you might have seen in the newspaper, the virus has been spreading quite aggressively throughout that part of the world.

The next question is from the line of Christian Obst from Baader Bank.

I have 3 questions. First of all, what does it mean, midterm? A very easy question. And the next one is also an easy one, I think. You said in the last quarter call that there will be the capacity replacement wrapping up in the fourth quarter in Malaysia. Is this still valid? And then concerning the Medical Sector, so before, you will always at least had a sentence about the divestment of the Medical Sector. And there is so far, as I have seen, no word in the current quarterly report or in the presentation about a possible divestment of the Medical Sector. Maybe you can elaborate in your position again here. These are the first 3 questions.

Yes. Thank you. Midterm to us means 3 to 5 years. That's basically how we look into a statement like this. Then the second thing, on the CapEx plan in Malaysia, absolutely on track. So there is no change to our last statement. And the third question on Med sale, yes, we didn't mention anything because there is nothing to mention for the time being. As we've said many times before, we execute the business, and it is generating significant cash flow and profitability. Once this will significantly change, we definitely will have to look differently into this topic.

And the last one on the Medical Sector, there is some talks about a rapid ramp-up of capacity in China. Do you have any kind of concerns, of course, not in 2022 but going forward, that this might have a massive impact on the entire margin development in the Medical Sector? Or do you see that already?

Good question. No, we don't see it yet. But it is exactly the point why, at a certain point in time, we will basically start again the discussions on spinning off Med and selling it because the capacity increase will translate into strongly reduced ASPs, average selling prices, on the market. So for '22, not the strongest impact to expect for the year, [ but after, most probably yes ].

Okay. And the last one is on the entire industrial business, mainly in Semperseal. So you're going to attract new customers. Can you give us some kind of an indication how much of the current order intake or the order intake you're planning into the next 6 to 12 months is coming really from new products or new customers? Do you have any kind of guidance here?

Please understand we report here backwards and not looking forward. But as this is a quite compelling business case, there is obviously a significant contribution from new applications and customers in new geographical areas.