Steel & Tube Holdings Limited (STU) Earnings Call Transcript & Summary

Welcome to the Steel & Tube Half Year Results Call. [Operator Instructions] I will now hand the presentation over to CEO of Steel & Tube, Mark Malpass. Please go ahead.

Thank you, and welcome to everyone on the call. Here with me today is Richard Smyth, Steel & Tube's CFO. Today, we'll cover our financial results and strategic progress over the last 6 months before looking at what we expect for the second half of the financial year. Turning to the half year review. The first half of the 2023 financial year has been another strong performance for Steel & Tube. We saw solid demand for steel continue despite easing in activity across most sectors as the super cycle conditions that we had been seeing through the 2022 financial year started to normalize. Macroeconomic headwinds, including inflation, higher interest rates, a tight labor market and ongoing impact of COVID continued to provide plenty of challenges for us. Our focus has really been to strengthen our balance sheet to support the business through the economic cycle, and we are now in a very good position as a result of those efforts. Moving to the financial results snapshot. The first 6 months of the year, the year ended 31 December 2022, we are pleased to deliver a second consecutive record half year revenue result and continued strong earnings. The Steel & Tube Board is also pleased to declare an interim dividend of $0.04 per share, which will be fully imputed. So this is equivalent to the first half 2022 financial year dividend of $0.055 a share, which was not imputed. Turning to the current challenges and how we're [ on to ] them. I won't go into all of the detail on this chart. But what I will say is with regards to pricing, supply chain and labor constraints as well as cost pressure and cash management, we've proven over the last few years that our agile approach to planning and use of data analytics allows us to adapt quickly to market conditions changing. And we're actively managing the current market challenges to drive positive outcomes for our shareholders, our customers and our team. Just to talk a little bit more about our steel pricing and procurement area and what's happening in that space, China makes up about half of the steel demand used globally, and we saw they demand coal over the first 12 months as their economic growth slowed. However, we do expect this to return to a more normal growth trajectory now that China has relaxed their COVID restrictions and are investing in economic stimulus. Steel prices peaked last year as mill space capacity constraints. These constraints have now receded. But a combination of factors, including the Russia-Ukraine, anticipated China forward demand and the lower Kiwi dollar, have seen international prices firming in New Zealand dollars through the December, January and February to-date period. What we have also seen is that there's some price volatility that we saw last year that has started to abate as the mill production catches up with demand and supply chain constraints ease. Demand for steel over the last couple of years has been extraordinarily high. But we are seeing -- what we are seeing is that there is some -- the super cycle activity is starting to ease as a result of the macro conditions that I talked about earlier. For Steel & Tube, our sector diversification does provide us with a lot of resilience and ensures that we are not unduly reliant on any 1 or 2 sectors and that we can take advantage of the opportunities that arise. We are also seeing some value coming through from our strengthening growth strategies. Our recent strategic investments were the expansion of plate processing, the acquisition of Kiwi Pipe and Fittings and Fasteners NZ. All are delivering to plan and are in line with the -- with our focus on high-value products, services and sectors and existing and adjacent sectors. We're also continuing to invest in digital, and we are a leader in our industry in this space. Our digital capabilities such as customer data insights, pricing, inventory management and our web shop provide significant value for our business and also our customers' businesses. Our long-term aim is to operate our -- that's financially rewarding for our shareholders and positive through our people, our customers and the planet. Our key metrics all continue to improve across customer satisfaction, employee safety, employee engagement. I'll now hand over to Richard Smyth to talk through the results in a bit more detail.

Thanks, Mark, and thank you, everybody, for joining us this morning. This chart shows a summary of our financial performance compared to the prior first half year. We are very pleased to present another great result. As Mark said, we delivered record revenue and strong earnings for the half year with a net profit after tax of $11.8 million. OpEx, normalized OpEx, has remained in line with inflation, and net operating cash flows have improved significantly as we have managed down our inventory levels. We are using these cash flows to reduce net debt and fund our growth strategies while also paying dividends in line with our policy of between 60% and 80% of adjusted net profit. We have had a big focus on building the strength and resilience of our balance sheet and are in a strong position for current market conditions and the potential easing in sector activity while also having the ability to invest in opportunities as they arise. Very pleasingly, inventory has reduced from June's $192.5 million to $175 million at half year. We expect inventory to continue to decline over the next 6 months, notwithstanding our continued strategic investments. Net debt is down to $32.5 million at December '22 from $43 million at the end of FY '22 and reduced further during January to close at $25.9 million. We have substantial bank facilities in place to fund both working capital requirements and growth. Revenue of $115.3 (sic) [ $315.3 ] million was a record first half result and above the 5-year average for first halves. Sales are being driven by a focus on the customer, trading disciplines and positive market conditions. Volumes remain strong with sustained customer demand for a comprehensive range of products. The average sales price per tonne has continued to increase. Gross margin was 21.7% with gross margin dollars per tonne increasing to $850. This includes freight and direct and subcontractor labor. Excluding these costs, our product margin was 33%. We saw some margin reduction in the first half as we focused on reducing inventory balances and also due to higher input costs. We are continuing to monitor and manage all costs. An important part of our strategy is to grow higher-value, higher-margin products and services, which will deliver increasing margins. Our policy is to sell at the right margin rather than simply taking volumes. The distribution business, which is high volume, high turnover, is more sensitive to market conditions. It has delivered a solid performance, and we expect margins to improve over the longer term as we invest into higher-value, high-margin products and services such as plate processing. The infrastructure business is more project-based and delivered a strong result. We have done a lot of work to reduce and appropriately price risk and are focusing on projects where we can leverage our experience and wider offering. Normalized operational costs as a percentage of sales continued to decline, and we are managing these closely. The increase in normalized OpEx in the first half is primarily due to wage and salary inflation pressures, property cost increases as well as increased depreciation. It is very important to us that we support our people with appropriate pay, and all Steel & Tube employees are on the living wage at a minimum. Going forward, we expect base inflation -- business inflationary pressures to be largely offset with operating efficiencies. Earnings were down slightly in the prior period with a small reduction in volumes and cost pressures offsetting the gains from improved pricing practices. We increased our inventory levels in FY '22 in response to supply chain issues and to ensure product availability for key customers. We are now unwinding some of these higher inventory positions with a 25% reduction in volumes on hand during the first half of the year. It is worth noting that industry lead times between order and delivery of inventory with international mills are around 3 to 5 months. So we will always see some lag between costs and sales pricing. As part of our inventory management discipline, we use data analytics to ensure we are investing in fast-moving products. This helps to manage margin squeeze as prices stabilize or ease. Pleasingly, our inventory turns have remained consistent with prior -- previous periods. We are very pleased with the cash being generated by the business with strong cash inflows as inventory levels are reduced. This is enabling us to pay down debt and invest in growth opportunities. We continue to carefully manage funds against the backdrop of challenging macro conditions. Our primary investments are into digital projects and business improvement and growth with expenditures supported by our increased cash flows. Thank you for your time, and I'll now pass you back to Mark.

Thanks, Richard. Just turning to our forward strategy. Our goal is simple, to make life easy for our customers needing steel solutions and to be their preferred choice of supplier. We continue to build on initiatives under each of the 5 pathways, which again are focused on customers, our people, technology, service and operational efficiency. We're very focused on growth. In particular, our efforts are being concentrated on 2 key areas to drive gross margin improvements, the first being continuing to strengthen our core foundation; and secondly, growing high-value products, services and sectors. As you can see on the slide, we have a number of key points underway under each of these that will deliver increasing contributions as they come to fruition. Our most recent initiative has been the entry into the aluminum market from this month. Our strategy here is targeted towards a select range of high-demand, high-value products largely servicing existing customers. This product diversification provides us with scale, customer share of wallet growth and is immediately accretive to earnings. Initial demand has been very pleasing, and further shipments are underway. In the last 18 months, we've also expanded our plate processing offer, and we acquired Kiwi Pipe and Fittings and Fasteners NZ. These are all performing well and in line with our expectations. Plate processing is in a high-value category with strong demand providing attractive margins. That builds on our existing offer, and we already have a very solid pipeline of -- in place. Kiwi Pipe and Fittings specializes in fire and water reticulation products and is performing well, as is Fastener NZ, and we are introducing new products into that range. Moving to the market outlook. Conditions in the second half of the financial year, the macro trend seen in the first half of the [ 2023 ] year are expected to continue, including ongoing inflation, high interest rates tight labor market and the ongoing impacts from COVID. Following the prolonged super cycle, steel demand is now expected to moderate, and that easing of activity is already occurring in the residential construction herein. Steel pricing has stabilized above the pre-COVID levels and in the first half of the financial year, and we are now seeing some further firming of international processes from December through to the current period. In terms of business outlook, adverse weather conditions in January and February has impacted on customer projects in the North Island in particular and resulted in a number of delays. We remain very focused on our customers and have a healthy pipeline of infrastructure and commercial projects in place. And it's also important to remember that manufacturing is a big part of our portfolio and remains fairly steady for us. We have a strong balance sheet and cash flows to support our growth initiatives. Our focus remains on our gross margin dollar per tonne initiatives and continuing to actively manage cost inflation. Our business growth will continue through both organic expansion and smaller programmatic M&A, and further strategic initiatives are expected to be reflected in the results from the 2024 financial year and onwards. Thank you for listening. I'll now hand back to the operator to manage questions.

[Operator Instructions] We'll take our first question from the line of Grant Swanepoel with Jarden.

Just in terms of GP per tonne of $850, how do you see that playing out over the next year or so? Are you expecting to hold on to that sort of [ arbitrary ] number? Or is that expected to dip off?

Grant, sorry, it's quite hard to hear you just the first part of your question. Just could you please repeat that?

I'm just talking about your $850 per tonne current run rate. Is that expected to continue at that sort of level? Are you going to hold on to that? Or as we turn down the cycle, will that be much more competitive and close to older numbers?

Obviously, a key focus for us is our gross margin per ton. It's a big part of what our strategic initiatives are around. We've done a lot of work in the pricing space in terms of analytics and to support our initiatives and insights in that area. So we're intending to hold those sort of numbers for the next half. So that's our key focus.

And when you talk about your volumes being down 2.3%, can you give some more color on that? Are you giving up some contracts to hold on to your $850 per tonne? And is there some benefit from your recent acquisitions or bolt-ons? What is the underlying trend in your markets, please?

Yes. So the question is primarily around volume. As I mentioned, we are seeing some softening in that residential space, but it's a relatively small part of our overall customer mix, Grant. It's about 10% of our mix. A big part of our business is obviously commercial manufacturing sort of the engineering space. And we're seeing the manufacturing PMI did soften a little bit over that November-December period that strengthened again in January. Still some way off the long-term average, but we are seeing some positive activity in that manufacturing engineering space. So we do expect overall some moderation of the super cycle that we've had for the last few years. I mean it has been an unusually unprecedented period. But if you look over a 5-year average, our first half volumes at 80,000 tonnes were well up above that kind of 5-year average. We will expect some moderation going forward. It's just the reality of the macro impacts that are coming into the economy in terms of interest rates and other factors. So I'd expect that those will have some impact on activity. Yes.

And Mark, I know you're a busy man, but are you still approving a repurchase order? Or have you suffered on that a little bit?

We're still -- Richard Smyth and I are still actively involved in procurement. It's, obviously, a key part of our business. We're a trading firm, and we are actively involved. And we're using a lot more analytics in that space as well, Grant. So we have some really good information around forward trajectories around demand. So we closely monitor that in our cover bands, although inbound freight has eased somewhat. On average, about 60% of our products are purchased outside New Zealand. So those cover bands are really important and flow through to inventory. So we watch that very closely, and it's just part of our business model.

Great. And then in terms of the weather impact, so it's been quite severe in North Island. Can you give a quick update on your North-South Island revenue mix? And then also, do you expect to capture whatever you've lost in terms of trading days through this later cycle through the final quarter of this year?

It's been 22 trading days -- so it's 119 in the back half. In terms of deferral of the demand that's possibly been lost through the flooding and the recent storm events, I mean we would expect that, that activity will just be deferred. So whether it flows back in the second half, you've seen the reports of potentially $1 billion worth of damage that's been caused. I mean it does take some time for that to flow through the system, but there will be increased activity as a result of the damage that we've seen. It may have some sort of offset to some of the things I mentioned earlier. In terms of the North-South split, typically, you're sort of somewhere between 60% and 70% in North Island as a reasonable proxy.

And we'll take our next question.[Operator Instructions]

[ Ryan Lee ] from Craigs Investment Partners. Are you hearing me okay? Mark?