Solid State plc (OUY.F) Earnings Call Transcript & Summary

Good afternoon, and welcome to the Solid State plc interim results presentation. Before we begin, we would like to submit the following poll, which you will now see on your screens. [Operator Instructions] The company may not be in a position to answer every question. However, it will review all questions submitted and publish responses where appropriate. These will then be available to you via your dashboard. Finally, we would like to remind you that today's presentation is being recorded. I will now hand you over to Gary Marsh, Chief Executive; and Peter James, Chief Financial Officer.

Thanks, Jerry. Welcome to our 2025 Interim Results Presentation. Thank you for taking the time to attend today. I hope you find the meeting informative and come away with a better understanding of our business. We held a Capital Markets Day in May, and there's an Investor Meet Company video on the search section of the PLC website, which is, I think, well worth of watch so if you get the time. We received a very positive feedback from the event, especially around the CMD about [ what it for ] and how it illuminate the Components division all that [ to live folk ], for attendees. So if you're interested, spare the time, well, worth going to look at that. We also run regular site visits to our HQ in, I believe, some Components and Systems operations in Redditch to south of Birmingham. So if you're interested again, please contact Walbrook PR. Let's just briefly talk you through what we're going to be covering in this presentation. We look at who we are, how we structured our business model and customer base. Then we'll move to financials. This will be followed by review of the two divisions of the group, Components and Systems. Then we'll talk you through the 4 key pillars of our strategy and M&A, closing with the outlook and strong prospects for the group before taking your questions. As we plan for growth, we spent the last 8 years strengthening our senior leadership team. Talent development is a really very important part of what we do. During the last 12 months, the team has gained invaluable experience presenting investor conferences in the city, most recently leading this year's Capital Markets Day. I think the quote at the top of this slide really does encapsulate what we do, but you might say, okay, it's great. But how do you do that? It really boils down to 2 things: know-how and capabilities, the know-how of our people to work on hand-in-hand with their customers, becoming what we like to think is extension of their engineering team, designing the right technology for the given application. We spent decades investing in our test and measurement and production capabilities. And year-by-year, we're continuing to develop our infrastructure. Today, there are very few, if any, independent businesses that have the breadth of the infrastructure we now offer. Collectively, our know-how and capabilities help us create real stickiness between us and our clients. And as a group, we work hard at seeking out new customers for the future through our marketing initiatives, now 50 strong BD and sales team, and exhibiting at numerous trade shows around the world. Now moving to how we're organized. The business is split, as you can see from this slide, into 2 divisions, Systems and Components. We'll provide you with the divisional review a bit later in the presentation, but suffice to say the 2 divisions are highly complementary. Those who know us, you see we carried out brand refresh and launched the new Solsta brand. We've made 5 acquisitions in our Components division today and felt it's time for us to consolidate the business under 1 unifying brand, Solsta. The mission of Solid State over the medium term is to build an agile business of ever increasing scale and resilience for the shared benefit of all of our stakeholders, our primary measure of scale being earnings per share. So each side of the business complements the other. So Components it's often a warning of changes in the supply chain, fed through to our Systems business. I think shortages over the last few years have been a classic example of that. While Systems gets advanced access to new designs while they're still at pretty much the architectural stage, allowing Components to visit engineers to get their products designed in ahead of competition. Two divisions are often working together, the most common area being battery power, for example, where the components business develops, development team working with the customer who also has a battery pack requirement. This gives each side of the business much greater reach and access to solutions that would not otherwise be available. [indiscernible] what's the history of the company. It is going a long time, so I'll keep it brief. Solid State began like [ 53 ] years ago as a nonfranchise broker of electronic components. As the market matured, we signed franchise with semiconductor manufacturers and I think the company has 150 to float on the market now 28 years ago, grew steadily to the -- in the late 90s when the dot-com bubble burst, and we began to see business going offshore first at the Eastern Europe and then to China. It was then a case, do we delist or diversify. Pleasingly, we chose the latter with the acquisition of Steatite about 22 years ago this year was really the genesis of the computing and battery business that you see today in our Systems division. Since then, we've made 14 further acquisitions, broadening our product portfolio, in antennas in our Systems business in 2013 and very recently in this year vision systems in 2021 with the acquisition of Active Silicon. In Components, we've broadened our product offering and developing our range of higher-margin own brand components, introducing, for example, Optoelectronics in 2018, electromechanical devices in 2021, and this year ferrites and magnetics with the addition of Gateway to the group. To date, we've made 7 acquisitions in Systems, 3 in Power and 5 in Components. Throughout, our M&A we will be consistently cash generative and will return profits to shareholders. Conscious of shareholders' dilution, we funded most of these deals through our own cash reserves and bank debt. To date, we've carried out 2 fundraises. In 2013, we raised GBP 2.5 million; and in 2022, you just over 25 -- sorry, just over GBP 26 million. We've got a long-term blue-chip customer base supplying our technology to their demanding applications and so we're very proud of that customer base we brought over many years. Many of them operate globally. So a large part of our business is fueled by international demand. Just to give you a couple of data points there. In 2019, international sales represented 20% and our business now is over 50% [indiscernible] example of a Component customer. They came just because of our value-added services. They're both Components and Systems client today. With Philips Healthcare, 3M and [ Collins ] are utilizing battery packs in their products and services. Benefits of scale start to pay dividends, supplying more products into our Tier 1 customers, so improving our organic growth prospects. We see significant potential for further growth here across all of our business units to broaden our complementary products and technology profile. I'll now hand you over to Peter who will talk you through some of the numbers.

Thanks, Gary. So we've presented a snapshot of our financial highlights here on this slide. And while the current year has been a tough year, we'll start with a tough year, the combination of headwinds coming from destocking post the component shortages, industrial slowdown and a period of sort of macropolitical uncertainty both domestically and internationally, this has slowed some investments and some programs. However, on the later slides, hopefully, we'll provide some color to the challenges, but not only that, provide some balance to the exciting opportunities we've got in the coming years as we aim to deliver good growth as the market conditions improve. So moving to some of the key numbers. Starting with the order book. The order book does reflect the normalization post the destocking. But pleasingly, we've seen that stabilize. And post period end, we've seen that up slightly to GBP 85.5 million. Revenue, I'll talk to a little more on a later slide, but it's probably worth flagging here at this stage. During Q4 of last financial year, we saw GBP 10 million of revenue and circa GBP 3 million of profit pulled into FY '24, which have been planned for Q1 of this year. Had that been delivered as budgeted, the results would have been significantly better, circa GBP 72 million of revenue and GBP 5.5 million of adjusted PBT. Gross margins continue to be very robust and hold up well at just over 31%. However, when you look down at the lower profit metrics, clearly, the adverse impact to the operational gearing of that lower revenue does get reflected in the profit metrics further down. In terms of dividend, we typically declare 1/3 of our dividend at interim, 2/3 at the final. And in this interim period, we declared 0.83p. Dividend cover is decreasing to circa just over 2x from last year, where it was just over 4.5x, reflecting that we expect the performance to improve and recover in future years. We have faced lower trading. However, we're pleased to be able to see some of the working capital unwind, and that's meant we've continued to deliver strong cash generation with operating cash conversion of 231%. And that's continued to see net debt fall. As we go on, the revenue bridge here on this graph, you can see we've got the impact of the communications program, which has not recurred in this particular period as well as currency headwinds, which also has been -- faced destocking in the Components division. However, more positively, the Systems division outside of that communications products has seen modest growth in this period. Adjusted operating profit. Here, you can see the first bar is the adverse impact of the operational gearing and the volume. Against that, we've seen cost reductions. So the variable costs related to that extra volume had not recurred, GBP 2.2 million. The one-off costs related to the closure of the AEC site that we did in the first half of last year has also not recurred. The third bar there is cost savings, and that really reflects where we pulled our belt in, in areas of the business that have faced headwinds. However, we have continued to invest in parts of the business where there are good growth opportunities, in particular, the integrated systems facility in Ashchurch and our communications and antennas capability in Leominster. That investment of GBP 1 million roughly is 50-50 between wage inflation and additional heads. We expect to see circa GBP 2 million of investment on a full year basis, which is very important to drive capability and the associated quality of earnings over the midterm. In terms of net debt, we can see here the net debt position has continued to come down from just under GBP 5 million at year-end to GBP 2 million at the half year. Cash generation from operations continues to be strong at just shy of GBP 9 million in the period. We then spent GBP 1.4 million on lease payments and interest, which is the financing activities. We paid tax on last year's strong profits. We've continued to invest, as I said previously, with CapEx of GBP 1.5 million and obviously the payment of the final dividend in September. Net assets. Net assets are slightly down in the period, and that's driven predominantly by the balance sheet revaluation of our U.S. assets. The rate went to [ 134 ]. Post period end, we've seen that rate pop back a little bit. So some of that, if it continues as it is may well unwind in the full year. So moving on to the divisional review. The Components division really links up the industry, solving problems by linking up the industry. It becomes a trusted adviser to its customers and that's absolutely critical to see our customers coming back time and time again. The Components division has 2 key areas. It has own brand products and franchise components, and the own brand products are typically 10% better margin than franchise. Those expertise are absolutely critical and help to make customers sticky and add extra value. We've got a couple of videos now that the team will show, which hopefully brings to life some of the products that our Components division supplies. [Presentation]

So hopefully that brings to life for you a little of some of the applications of the components and what it really hopefully brings home is how actually everything is engineering-led, it's a technical cell and it's designed in. Post period, we acquired Gateway for GBP 1.4 million, funded by group's cash resources. Gateway is a specialist in magnetics and ferrites, which complement the electrical mechanical components that we already had in the Components portfolio. Gateway has got specific skills around bespoke machining, and we use those materials to concentrate the shape of magnetic fields for the like for inductors and transformers. An area that sort of -- an application people might relate to is the iPhone charging, where it's induction charging or your Apple Watch and a ferrite is used in inductors. This ties in really nicely with the Durakool product range that you saw on the previous video and applications around medical, energy storage, EV charging are really exciting prospects. We also don't see huge customer overlap. So about 17% customers were common, but that means there's an awful lot of opportunity to cross-pollinate the sales channel both ways, us selling Solsta product into Gateway customers, and equally, selling Gateway product into Solsta customers. And I'll hand back to Gary, who will take you through some of the exciting investments in systems.

Thanks, Pete. As we announced last financial year, we've been building on our relationships with a number of Tier 1 prime contractors. We see significant midterm organic growth opportunities in large and more complex systems, which require additional space to build physically much larger units than typically we've built over prior years. Based on a contract with an anchor customer, we're currently fitting out a new 16,000 square foot production facility at Tewksbury facility. The image is here on the left and basically [indiscernible]. It's a great location in terms of transport connections, giving a significant production space that we can grow into as we secure further new business and access to broad production and engineering talent pool, which benefits us from the [indiscernible] to South Birmingham. Our new Integrated Systems business unit will begin contributing to sales in FY '25, '26. So our IS business [indiscernible] that business unit will offer high value-add capabilities, which are not widely available and provide significant value to our Tier 1 customers. It complements our existing test measurement and engineering expertise enabling us to secure more multiyear and multi-product programs, which will require additional services such as integrated logistical support, which is known in the industry as ILS, enhance technical publications or tech pubs, all of which are premium business, provides recurring revenue enhancing our value to our partners. The significant investment actually doubles our computing production. And whereas last year, we were running our Redditch facility at pretty much full capacity. This year, we're going to have overheads of 2 facilities, which [indiscernible] circa 50% utilization. Therefore, we want to secure a new business to fill these facilities. So we'll be operating -- we'll have operating margin improvement alongside increased computing revenue. Another exciting area, investment and opportunities in our RF business unit with capability and with great team [indiscernible]. We've developed cutting-edge RF antenna systems. This facility has seen strong growth over recent periods from less than GBP 2 million of sales in excess of GBP 4 million last year. The midterm opportunity to see this growth very significantly and really very exciting. As margins of these products are in the high and the highest in the group is engineered parts of our business and typically between 60% to an excess 70%. We're investing in test and measurement and talent development as this is critical to delivering on the potential for transformational growth over the next few years. So growth in our RF antenna business is expected to be driven in large by the U.S., which is the largest market in the world for our products and systems. In order to help facilitate this, we acquired Q-Par in the U.S.A., for a consideration of up to $2 million. Q-Par is a long-standing distribution partner, specializing in supply in the U.S. market with our antenna systems, primarily to the defense and security customers. The acquisition allows us to secure existing customer relationships as well mitigated the credit risk of trading through our smaller distribution partner to major defense primes. Furthermore, this acquisition strengthens the group's U.S. presence, supports medium-term growth through potential onshore production and enhances our capability to scale in the world's largest antenna market. As you can see there on to the bottom right image, we've got a freehold facility in Elkhart, Indiana where we've seen -- we have significant space to expand our U.S. footprint. Made in the U.S.A. It's going to become increasingly important, and we have a bridge here to invest and develop this capability. Initially, this is like to be U.S. assembly of U.K. design kits; secondly, progress to U.S. build and test; and lastly, in the future, potentially developing our U.S. engineering and design capabilities. In addition, this facility has the capacity for us to establish additional pack -- battery pack production. We're considering moving some of our lower value-add higher volume battery assembly to Indiana to enhance margins and lower cost of production versus California. So just moving to strategy to those who don't maybe know us as well. We're broadening our range of complementary products in the defense and security sector. R&D investment in more complex systems to meet ever-growing demand in this market, on internationalization to assist cross-selling in Europe and the USA and the Custom Power brands being adopted across our entire power business. And we've secured new franchise at the USA and recently announced a new contract wins there. In Components, we're expanding out our electromechanical range, through our own brand Durakool, which you saw in the video, and most recently adding ferrite and magnetics from the acquisition of Gateway. Finally, we successfully unified our Components division, under the new Solsta brand and carrying out brand refresh across the rest of the group to a family brand which we can build, which can only assist in improving cross-selling opportunities across the group. So moving to M&A. In identifying potential targets, we don't have a one-size-fits-all approach. It's tailored to ensure that we derisk the deal and strategic execution. The financial assessment of the target drives our growth strategy. We're pleased increase with the 2 bolt-on acquisitions that we completed post period end. Our approach to M&A is based of risk management, capital allocation, where we look to reduce the risk of delivering on our growth strategy. In identifying potential targets, we do have -- sorry, again, one size fits all. The financial assessment of the targets drives the price we pay, targeting deals that preferably earnings-enhancing in the first year, what's looking to minimize the ROI delivering growth post acquisition. The Board continues to actively explore attractive acquisition opportunities across its target markets both here in the U.K. and overseas. The acquisition of pipeline for both divisions is healthy with particular focus on adding technology and further internationalization of the group. Just some closing remarks here. Enhancing our operational capabilities establishing the IS business unit at Ashchurch is very important to the business. We're looking to add further talent to increase our capacity in our antenna business in the U.K. and expand into the USA, started work to diversify our supply chains to reduce our reliance on China and we're looking at alternative sources of supply. Turning to organic growth opportunities. The investment in our Integrated Systems in Tewkesbury built on demand from our anchor customers, I mentioned earlier, will provide capability, capacity and the foundation to target growth for all of our prime defense contractors, building on our established customer relationship and giving the potential to grow significantly in the midterm. This additional capability and capacity, while depressing short-term performance, is a real cornerstone of our midterm development. Once online, we can drive the [ cash growth ] to utilize the [ cost ] base, establishing full customer base who want and need to leverage these capabilities. Security [indiscernible] of ISO13485 at our Weymouth facility is an important step in developing our potentials across the group to drive growth in the med tech sector, where we see great opportunities for sustainable midterm growth. The demand in RF technology in antennas has been very significant and with great expansion in the USA [indiscernible] and acquiring Q-Par, the first step on that road, with our Indiana facility giving us the ability to progress over the medium term. Furthermore, while the Comms business has seen that program being postponed in the short term, the future prospects are really very, very positive there, where we can overlay significant opportunity for material communications program revenue, which can be secured as a technologies adopted for growing user base across the NATO alliance. This will add significant additional profits above the growth in the underlying core business, having shareholder value in the years that these programs are delivered. Finally, looking ahead, the new facility at Ashchurch and the 2 bolt-on acquisitions completed in the period really exemplify the willingness we have to invest and build capabilities in critical mass, enabling a return to market growth throughout the cycle. Okay. Thank you.

Thank you, Gary and Peter. If we could turn to the questions. We've had a number of questions that have been submitted ahead and during the presentation. But investors can continue to send those in via the Q&A tab. If we turn first to the markets. Can I ask what are Solid State's main competitive advantages? And which segments do you see the most opportunity in moving forward?

I hope we covered that in the presentation. I think the main competitive advantage is the know-how we built up over many years, and the infrastructure we have in place across the business now for those value-added services, it's important we continue to invest in that. The industrial market has been depressed, as you will have seen across our peer group. But that will come back. This is a pretty cyclical area, but that will return. But certainly defense in the long term will cross our strategy rise and taking us to 2030. We believe it's a strong area for growth, but also med tech, very exciting, industrial -- Internet of Things and industrial, again, very exciting prospects for us. So lots to go at over the coming years.

And where can investors expect any further margin improvements within the group?

Yes, I'll grab that one. So I think the key thing for us is about incremental value-adds. So if we take them division by division, with Components, it's about over layering own brand. So Gateway is a really good example, as I talked about, the machine and ferrites are richer margin than the average for components. So adding that own brand enhances the margin but also makes the customers more sticky to us for the franchise products as well as the components. If we look at Systems, the investments in Ashchurch are a really good example of higher-margin activity. It's premium engineering-led activity that's more sophisticated and greater value add. So the margins we secure reflect the level of engineering value-add.

You mentioned Ashchurch there. Can you add some color to the potential impact of that on the business?

Yes, I think the -- it's opening up those sort of multiyear programs. So over time, as that's established better visibility, I think the prime contractors in defense and security market [indiscernible] to lean on their supply chain and to do more for them as there's more investment going to go into that sector. So having that infrastructure in place will be good for us. And it's also about building up, as Peter said earlier, there's positive earnings and getting improved margin through its more complex system, but a very exciting area of development of our computing business.

Okay. Perhaps a couple for you here, Pete. First one, does the EPS figure reflect the bonus issue?

In short, no. The EPS figure is pre the bonus issue at the half year because the bonus issue was done very early in October. To normalize it, you divide the number by 5.

Okay. Nick A. also asked, are you able to comment on covenants on debt following an expected reduction of earnings?

Yes. We're at -- as you saw on the net debt bridge, net debt is very low at the moment. We're just about GBP 2 million of net debt. So the covenant is actually very easy at the moment. That gives us good capacity for organic investment in terms of debt. We would typically look at leverage being not more than 1.5x. At the minute, it's well less than 1. Our covenants are 2.5x. So we've got lots of headroom to the covenants, probably more than our shareholders would actually want to see us in terms of leverage.

A couple of questions on the defense industry. Is there any further visibility regarding defense opportunities? And are you able to reduce your dependency on lumpier contracts?

Certainly good opportunities coming through with the NATO framework agreement we have for other markets in Western Europe, which we are very excited for the short and medium term. So that's good to see. And also developments in some strategic platforms here in the U.K. So pretty exciting development there.

With the delay of the U.K. defense contracts, have you seen your customer concentration change at all?

If I take that one again. So if we look traditionally, industrial has been about half of the business and defense has been about 20%. Last year, we had a very strong period where we shipped a very significant communications program, which is just over GBP 33 million of revenue. And that meant defense was 45% in total. That has obviously not recurred in this period. So defense will go back to more traditional norms, certainly significantly lower than last year when it was very high. If you look in terms of individual customer concentration, we've never had traditionally any customers over 10%, in fact, not actually over 5%. Similarly, that's we've reverted to that normality. Last year, we had 1 customer that was over 10%, which was a customer for that very large communications program we shipped.

Looking at acquisitions, Adam J. asks, how quickly do you expect the recent acquisitions of Gateway and Q-Par to enhance margins and operational performance?

I want to grab that one as well as it's a numbers question. I think that those acquisitions are relatively small businesses so the impact on the group will be modest. However, Gateway will richen the mix of business for the Components Division, albeit it's a relatively small business compared to the division as a whole. The integration is going very well in terms of the cultural fit and the team, which is really very, very pleasing. Moving on to Q-Par, that's more about -- again relatively speaking, a small business. And as Gary said, it's really about derisking that customer base, that sales channel and giving us a bridgehead. That's probably more of a midterm growth opportunity as we look to develop that U.S. sales channel and the U.S. capabilities that Gary described.

Where do you think your investment focus will lie moving forward?

It's going to be -- it's a mix of organic and acquisition. Certainly, we've laid out the investment in the business really now in the J3 facility and in RF, principally those areas. Acquisitions will be more -- looking more own brand to develop that proportion of the Components business is as Peter said typically 10% higher margin than franchise business to [ richen ] the mix there. It could be important over the coming years. But further internationalization, I think, again, important. And certainly more for medium term, continuing to work on med tech sector, I think, to counterweight defense and security, I think again will be important. But need to emphasize, we are very fussy when it comes to acquisitions, and it's going to be the right fit for us.

Okay. A couple of questions on dividends but just to bring them together. I think it'd be helpful if you could explain your decision to cut the dividend. And also, can investors infer anything from that on your confidence in the outlook of the business?

Should I go first? Yes. So if we look at dividend, the dividend needs to be proportionate to the earnings. So with the earnings, the full year consensus being 5.5p, it wouldn't have been appropriate to maintain it at the level we saw last year. However, the dividend cover last year-end was just over 4.5x covered. We've reduced that dividend cover to just over 2x covered in this year. And that does reflect our confidence that the earnings will recover relatively quickly as we look forward. The other thing with the dividend is we typically do 1/3, 2/3. So, yes, we follow that sort of initial guidance with the analysts at Cavendish and Zeus.

We're very proud about our dividend track record. We paid a dividend every year since we joined, [ David ]. So dividend is very important to us. I think as -- myself, my family are pretty major shareholders in the business. So we feel it is important. You've got to balance that, maintaining that dividend policy, which we're proud but also reinvestment back into the business for the long term for all of our stakeholders.

Just taking a step back a little bit. How do you see the company evolving over the next 5 years in terms of the scale, market share and your innovation?

So certainly, we see lots of potential, I think, in the industrials market will return. I think defense and security market will be a known -- we see good growth. Med tech is a great area. But I think internationalization is a really key element. In lots of the markets we are operating in, the USA is certainly the largest market in the world. We've got a good strong capability in there. Some recent business we took, we announced a contract went out in our battery business. We never had access to from [ Somerset ]. We had to have capability in production in the USA to do that. There's more of that to come. So I think as we look to our strategy horizon to 2030, there's lots to go at.

Follow-up to that. With growing international focus, what -- could you just talk through the management structure and the capabilities in place to support that?

I think I said at the start it's very important we invest in our management team and senior leadership team, and a key focus is on [indiscernible]. See on the slide there to do that and mentoring, we've got -- we're working hard on developing that as [indiscernible] for example. So yes, I think that's always been a culture of the firm, to bring on talent, not only home grown talent but also testing in the talent we acquire. Because a lot of what we do is a people business, and we've seen good progression of the team, not just, as I say, home grown, but also people who joined our acquisition. And we can demonstrate that. I think that's been a real success story for the company, and we'll continue to do so.

One last question. Talking about the percentage of your business, which will be in the defense space. How much of that -- what do you think the split will be kind of between Europe and North America in the future?

I think it's very hard to answer that question precisely, [ Joe ], because, yes, if you take the big defense prime, be that BAE or Thales, they're big customers for us, where does it end up? Clearly, I think in the near term, the political environment in the States is going to promote investment in security and defense. And equally, Europe, you're seeing -- Poland, you're already spending very significant proportions of GDP on defense. So there are -- unfortunately, the macropolitical environment means we are going to see significant spending, I think, to the defense sector over the near and midterm, albeit that's not always necessarily against the backdrop for some of the best news headlines.

Thank you. That concludes the questions we have. Thank you, Gary and Peter, for updating investors today. Could I ask investors not to close this session as you will now be redirected for the opportunity to provide your feedback. If anyone has any further questions or would like any additional information on the company, please do get in touch via [email protected]. Thank you again for attending today.

Thank you.

Thanks all.