Synthomer plc (SYNT) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to our full year results presentation. It's great to see you here at the Royal Society of Chemistry in London with many others joining online. As usual, I'm here with Lily, our CFO; and Faisal, Head, Investor Relations, and we look forward to answering your questions at the end. I will provide an overview of our performance and the significant steps that we have taken this year to safeguard, strengthen and refocus the business. Lily will then walk through the numbers in more detail before I come back to show how we are making good and differentiated progress in each of the divisions and how that underpins our confidence for the future. Starting with performance. As you are well aware, market conditions have been amongst the most challenging in decades, both for Synthomer and the wider industry. A prolonged period of suppressed demand meant that our volumes declined by 10% in the year, albeit at a slower rate in the second half. Total revenues were 15% lower at GBP 2 billion. Whilst we saw greater resilience in our Speciality businesses, the impact of this demand environment and EBITDA was significant, with margins also lower versus prior year, mainly due to higher production and utility costs. Our key priorities at the outset of the year was to protect and strengthen our financial platform, and here, we made significant progress. Cash generation has been a key contributor with the Group delivering a 24% improvement in free cash flow of GBP 86 million in 2023. This impressive performance was driven by an intense focus on cost, inventory reductions and resulted in a 96% conversion of EBITDA to operating cash flow of GBP 136.3 million. It fundamentally underlines our ability to navigate severe trading conditions and is highly promising for the future. In line with our strategy, we have managed our portfolio with the first in what I expect to be a series of divestments. The sale of our laminates, films and coated fabrics business in February raised proceeds of $262 million. We are also grateful for the strong support that we have had from our shareholders in the GBP 276 million rights issue last October. As a result of these actions, net debt more than half by year end 2023 was 60% lower than at its peak. With the further covenant relaxation agreed this month and committed liquidity of more than GBP 450 million, we are in a strong position to go forward. When we presented our new strategy to you in October 2022, I said that we would deliberately evolve to become a more speciality business. We recognized that significant parts of our portfolio were more specialized and closely aligned to exciting fast growth end markets, so that is where we decided to focus our efforts. These areas have been the most resilient from both the volume and the margin perspective during the year, testament to our strategy as a whole. Clearly more than half of the Group's revenues now come from our speciality businesses, with EBITDA at an even higher proportion. That gives you a sense of the scale of our speciality portfolio and therefore the opportunity that we have to expand in these markets. We have also continued to streamline the business, reducing the number of sites from 43 to 36 since October 2022. Our ambition is to go further still, reducing to below 30 sites over the next 12 to 18 months. Good evidence that our evolution is underway can be seen from the EBITDA margin improvement across all divisions in H2 versus H1, despite the massively subdued environment. Innovation continues to be a priority, with 22% of our sales coming from products launched in the last 5 years or with protected IP, that is being driven by customer demand for both more sustainably made products and products that help them meet their own sustainability targets. Regulation is helpfully also propelling change, and 64% of our new products now have a clearly defined sustainability benefit. In addition, we were awarded an A- rating by CDP, which brings us to the top quartile in the Chemicals sector. We have continued to reduce our own Scope 1 and 2 emissions and progress our other sustainability goals in line with our targets. These are all examples of how we are delivering on our strategy, the evidence that our strategy is working with a different looking business beginning to emerge. Our job is to sustain the momentum and continue this evolution, so there is much more to come in the year ahead. Whilst our efforts have been focused primarily on preserving cash, we continue to make disciplined investment to support organic growth and innovation. There is an opportunity to do more of this in the foreseeable future when we are in a better position to do so. Further divestments are in the pipeline with three processes underway. With interest rates peaking and the appetite potentially growing, I'm hopeful to see further progress in the first half. As always, we will not sell any assets below their fair value. We have done a lot to improve the reliability issues we inherited with the adhesive resins business, with the problems now confined to two out of six sites. The new management team are doing a great job to reposition this division, so that it can rebound strongly when the markets return. There is a good business here, but more work to be done in 2024 before we see its full potential. We are extending our Excellence program to target an additional GBP 30 million to GBP 40 million in savings in 2024 and 2025 from procurement and production initiatives. These actions alongside the large amount of strategic progress in 2023 give us confidence that Synthomer can increase earnings and generate positive free cash flow this year, even if the macroeconomic situation does not improve. And when demand does start to come back, we expect to significantly increase our profitability, more than doubling EBITDA from current levels in the medium term. I would hand over to Lily now.

Thank you and good morning, good day to everybody. 2023 was undoubtedly a very difficult trading year for the Chemical industry and for Synthomer. In that context, I'm pleased that our decisive actions have halved the Group net debt at the end of the year, with particular highlight for me being the focus of business on cash generation with free cash flow of GBP 86 million, underpinned by a 97% EBITDA to operating cash flow conversion. Now starting with the financial summary. The results were in line with our trading update at the end of January. Group revenues for continuing businesses was 15.6% lower on a constant currency basis and just shy of GBP 2 billion, reflecting a 9.9% drop in volumes due to subdued end market demand and increased global competition in some of our Base Chemical products. As Michael has already mentioned, the volume decline slowed in the second half relative to the first, and Q4 saw the first year-on-year improvement in Group volumes for some time. Price/mix was lower, reflecting the pass-through of lower raw material input costs. Consequently, group continuing EBITDA was GBP 142 million, a significant decline on 2022, reflecting the substantially lower revenue, but mitigated by strong pricing in our speciality businesses and our cost reduction program. The EBITDA margin in each of our 3 divisions improved in the second half versus the first. Depreciation and amortization increased to GBP 104 million in the year versus GBP 84 million in 2022, reflecting a full year of owning adhesive resins business and the reprofiling of those acquired fixed assets under IAS 16. We expect 2024 depreciation to be in the mid-90s. Continuing business operating profit of GBP 37.7 million for the year, a decline of 77% in constant currency. Interest charge also went up as a result of the acquisition. We currently expect net financing cost of approximately GBP 60 million to GBP 65 million in 2024 as a result of higher net debt and other changes to the Group's financing arrangement. Discontinued operations, including Laminates and Films and U.S. Paper and Carpet business contributed around GBP 50 million in revenue and an EBITDA loss of GBP 3 million in 2023. As always, we included a schedule for special items in the appendix. The Group underlying tax credit for continuing operations was GBP 1.6 million comparing to GBP 27.6 million charge in 2022. This year, the effective tax rates were lower than usual, reflecting an increase in deferred tax assets held off balance sheet in relation to the U.K., due to uncertainty regarding their use in the foreseeable future. Now going forward, we continue to guide our ETR in the range of 23% to 25%, driven by the geographical mix of profits. Total group continuing and discontinued had underlying earnings per share of 35p loss for the year, down from 152p in 2022, reflecting the lower earnings and higher number of shares. A note that EPS is shown using the weighted average number of shares for 2023 of 85.4 million, reflecting the share consolidation and rights issue, which took place in October last year. Now going forward, our basic number of shares is 163.6 million. Our net debt for the year-end was just under GBP 500 million, with covenant leverage of 4.2x. As Michael mentioned, for Prudent, we have recently secured further covenant extensions, which I will come on to later in the presentation. Now turning on to each of the divisions. In CCS, revenue were GBP 816 million, down 19% in constant currency from prior year, mainly as a result of 13.8% fall in volumes. We have seen some cautious behavior from our customers given the subdued and user demand. Encouragingly, while reduced raw material cost were reflected in our pricing, the gross profit margin was helped up well, reflecting the more speciality nature of our portfolio. In addition, our efforts to tighten cost and various other strategic initiatives such as the closure of our small Texas production site, meant that the EBITDA margin increased year-on-year to 12.3% from 12.1%, with total EBITDA reported at GBP 100 million. Michael will come back to talk about the strategic progress we're making in this division, but we're pleased with the resilience and growth potential that we see, especially in our Coatings and Energy Solutions businesses. The division today is more weighted to Europe. Our investment in this division will be more towards America, Middle East and Asia to support growth. Coming on to Adhesive Solutions. Revenues increased slightly on a constant currency basis, reflecting a full 12 months owning the business versus 9 months in the prior year. On a like-for-like basis, there was a significant drop in volumes as a result of lower demand and destocking, amplified by the reliability issue in the acquired businesses. Volumes began to stabilize in the second half, reflective to the first and EBITDA margin improved by 70 bps. The ARS division 2023 had a similar proportion of speciality to base revenue as the whole group, about 55% to 45%. Unlike the Group as a whole, ARS speciality products saw more stable volume and were able to largely maintain or increase our margins. However, as we've seen -- as we've been flagging since last November, we've seen more intensive global competition in our hydrocarbon-based business. And we have, therefore, focused on our cost competitiveness, which include a small investment on strengthening supply in Europe that we recently announced. Having delivered all of the synergies actions identified at acquisition time, the big focus has, of course, become our performance improvement program to increase operational reliability and cost competitiveness, which delivered around GBP 5 million of savings in the year. There is, however, much more to come in 2024, including areas of operations reliability, procurement and supply chain, with total savings expected by 2025 to be around $25 million run rate per annum. Alongside profitability, the program also focused on inventories, which were reduced by more than GBP 25 million in 2023 with further progress expected in '24. And finally, Health & Protection and Performance Materials division. Here, we saw a similar pattern with lower revenue driven by a 13.5% reduction in volumes and significantly lower prices. This reflects the very subdued demand environment that has persisted through the year, and EBITDA was significantly behind 2022. Within Health & Protection, NBR volume fell by 13.4%. With reduced capacity in the market, we started to see a modest volume improvement in Q4 relative to Q3, but this has not translated into margin recovery yet. We have continued to take decisive actions to reduce our cost with the closure of our Kluang NBR facility being the most significant one. As a result of the closure, we impaired GBP 5.6 million of plant and equipment assets. Performance Materials was also significantly impacted by the market demand environment with volumes declined by 13.5%. We have also experienced pricing pressure with raw material price reducing during the year. As I've mentioned previously, 2 parts of this business were discontinued during the year, with Laminates and Films divested and our North American Paper and Carpet business closed. Further divestment on the noncore asset will follow. Our effort to enhance capacity utilization and efficiency meant that divisional EBITDA margin improved by 90 bps in the second half of 2023 versus first half. As I've mentioned, year-end net debt was GBP 499.7 million, a 50% reduction, principally reflecting the proceeds of rights issue in October '23, the divestment of Laminates and Films business and improved free cash flow. Against the backdrop of prolonged weak market condition, which resulted into a significant reduction of EBITDA year-on-year of more than GBP 100 million, we generated free cash flow of GBP 86 million. This is supported by our 97% EBITDA to operating cash flow conversion, including some benefit from additional factoring. Going forward, we expect the normal operating cash flow conversion to be around 60% to 70%. Captured in the free cash flow, we achieved GBP 80 million self-help savings and inventory was down by GBP 46 million, lion share of which was from our AS business. CapEx was GBP 84 million, in line with our guidance. Other than SHE and sustenance spend, we selectively invested in some growth areas, such as our APO line and a new innovation center in China. Looking into 2024, and Michael will discuss our new procurement and production excellence cost program, which he mentioned already on the top of the slide, we expect further inventory reduction in AS and our CapEx for '24 will be at similar levels to 2023. We also have 2 key nonrecurring cash items in 2024 that we have flagged before. GBP 38 million EU fine was paid as planned in January this year. And during the year, we will make around GBP 19 million in deferred contributions to one of our pension schemes. If macroeconomic conditions do not improve, we will still expect to modestly free cash flow positive in 2024, although net debt would be modestly higher than at the end of 2023 as a result of 2 items outlined above and partially offset by further efficiency improvement. Leverage was 4.2x net debt to EBITDA at the year-end, down from 5.5x at June 2022 -- 2023, and we expect to reduce it further over time through our divestment program, cash-generated business model and operating leverage to a recovery. In the meantime, we have now had a more robust financial platform. We have committed borrowing facilities in place today, comprising a EUR 300 million undrawn RCF, a EUR 520 million bond and the U.K. Export Finance facilities of EUR 288 million and $230 million. The RCF and UKEF facility are subject to 1 leverage ratio covenant. For prudence purpose, the Group agreed in March 2024 with our banking group and UKEF to extend the period of temporary covenant relaxation to ensure that appropriate headroom was maintained. We intend to refinance the bond during the course of 2024. In December 2022, we put in place a 2-year nonrecourse receivables financing facility for a maximum amount of EUR 200 million. Factored receivables assigned under the facility amounted to about GBP 110 million at the end of 2023, an increase around GBP 30 million from the '22 level. The Group's current committed liquidity is in excess of GBP 450 million with additional support from unused factoring program. Let me end the slide on capital allocation. While we do intend to invest in carefully selected organic growth opportunities aligned to our speciality strategy. Our key priority is to reduce our leverage towards our 1x to 2x medium-term target level. The Board has confirmed that dividends will remain suspended at least until our leverage is below 3x. Now in summary, I am pleased with the progress we made during a difficult year. We continue to focus on our short-term cash and cost actions and balances with selective investments guided by our strategy. Let me stop here and hand back to Michael to update you on strategy and outlook. Michael?

Thank you, Lily. Good. Slide 14 will be familiar to many of you now. And whilst there's a lot on it, these 5 pillars illustrate the key elements of our strategy and where we are focused. Some aspects are more subject to the current trading environment and balance sheet constraints than others, but all 5 pillars are executable and where we have control we have been making significant progress towards our ambition of becoming a Speciality Chemicals company focused on attractive end markets. This one-page strategic framework continues to guide us now and in the future. This slide illustrates the direction of our strategic evolution on 3 dimensions. We are gradually increasing the speciality nature of our portfolio and already started to see margins on materials improving in 2023, increasing our operating leverage going forward. In terms of our footprint here, we also are on the journey. As I have said previously, the U.S. represent the largest opportunity for Synthomer, and we expect it to account for over 1/3 of our sales in the near term. Asia is also of great importance for the business and will therefore be developed further. Our efforts to divest more noncore assets combined with internal consolidation opportunities will streamline the number of sites to less than 30, making us a more efficient organization with less overhead and fixed costs. But most important, it will also allow more focused and meaningful capital allocation for future growth. Let me quickly go through each of our divisions to show how these various aspects of our strategy are playing out. CCS is currently our most specially weighted division and therefore the best example of where we are trying to take this business by focusing on customer needs and allocating our resources accordingly. What's exciting is that CCS already has leading market positions, especially in Europe. Growth is being driven by our ability to offer solutions that can help our customers tackle both regulatory and sustainability challenges, underpinning our GDP+ growth outlook. We are building out a strong speciality platform to accelerate organic growth. We are aligning the business more closely to the end customer, managing our existing customer better and enhancing our value proposition. With our global customers, we are now developing relationships with their regional leaders and opening more doors by doing so. A great example of this was with an important U.S. customer where the value of our sales has quadrupled over the last 18 months. We have made modest investment to enhance our Coatings capacity in the Middle East. We also expect to deliver increased sales in China as a result of our investment in the new innovation center that will be opened in Q3 of this year. Our efforts to further improve and strengthen our portfolio have continued. We are doing this with a particular focus on sustainable innovation where we think there is a good opportunity to enhance our differentiation and grow our margins. The growing demand for bio-based alternatives is one that we are responding to with customer sampling underway in the first half, we have also continued to optimize our asset base to increase our efficiency. We successfully exited from a small production site in Texas during the year. We will close our site in Fitchburg, Massachusetts by the end of 2024. These steps are helping us to improve utilization, reduce complexity and focus investment to drive organic growth. Our Adhesives business has faced both a substantial deterioration in market demand as well as its own operational challenges that we have spoken about previously. Our focus has been on fixing the reliability issues that we inherited and to also make the division more cost efficient. We have already made meaningful strides to improve logistics and the supplier network, and the new leadership team has a clear plan to ensure that this division can deliver on its full potential as the demand environment improves over time. A key priority was to broaden raw material supply and reduce working capital closer to Group levels, and we have made excellent progress in both areas and we will go further in 2024. Having successfully delivered the synergies we identified at the time of the acquisition, as well as a further GBP 5 million of cost savings this year, our performance improvement plan is going further. We are now targeting total annualized savings of GBP 25 million by 2025, largely by optimizing procurement of key raw materials and improving reliability and production processes at key sites. Looking to the market itself, Adhesives continues to represent a good opportunity for Synthomer. Speciality products account for 55% of divisional revenues, including products such as Pure Monomer resins, Amorphous Polyolefins and Rosins. Similar, but clearly more pronounced to what we have seen in CCS, volume and margins were much more resilient in these areas than our Base Chemical products, which was subjected to increased global competition, lower demand and less pricing power. We will focus future investment on expanding the speciality part of our portfolio. We will mirror our efforts in CCS to strengthen customer relationship management, enhance innovation and drive sustainability initiatives. We are expanding our speciality APO capacity in North America, which is expected to come on stream by the end of this year. Coming to Health & Protection. End customer demand growth for medical gloves has remained robust, driven by the long-term hygiene megatrend. With destocking coming to an end, we see an improvement in volumes, as Lily mentioned, but margins remain low, and we still depend on self-help measures, such as the closure of our NBR facility in Kluang, allowing for a more reasonable capacity utilization in our main state-of-the-art site in Pasir Gudang. After these transfers, the division is now more cost competitive and will further continue to look for further efficiencies. A fact in this market is the lasting impact of very few but strong Chinese glove players that have changed the dynamics of this industry. In light of this, our objective is to proactively and globally position ourselves based on our proven capability as a market leader with critical mass. We have improved our intimacy with customers, building a much stronger understanding of demand and market flows, leading to deeper relationships that will serve us well as the market continues to gradually recover. We are already seeing the benefits of this approach, qualifying with new customers during 2023. We are also exploring a number of new low capital partnership or alliance opportunities in the U.S. and in China. And finally, we have been open in saying that the performance materials part of the portfolio is predominantly comprised of attractive but noncore businesses that we think have greater value outside of Synthomer. We have several formal divestment processes underway and we are considering a range of creative options for other noncore businesses. As always, we will update you as soon as a deal has been made. As I have alluded to already, ensuring excellence across all aspects of our operations has been a major focal point over the last few years. We are already seeing the benefits, not least in safety, where our record has been strong historically and we are steadily improving the sites that we have acquired in recent years. I have touched on the procurement initiatives. Whilst we think that our top strategic raw materials are generally well managed, there is a significant opportunity to improve the way we purchased the long tail of hundreds of other raw materials as well as our indirect spend and this is where we have identified material savings which will come through in 2024 and 2025. Finally, our Excellence program is delivering improvements both in Manufacturing and in Commercial operations where we have implemented a more customer-centric focus with stronger feedback loops. Turning to our Outlook for 2024, we have had a reasonable start with improved trends in January and February. That gives us some cautious optimism, but we haven't seen enough to suggest the broad-based recovery is firmly underway. We have now created all the means and the solid financial base, positioning us well until a demand recovery arrives. But even in absence of such any macro upswing, we still expect to make earnings progress during the year with modest free cash flow. We continue to consistently execute all elements of our strategy, which will result in growth, improved profitability and reduced leverage. To finish, I want to reiterate that through our near term self-help actions, the recovery potential in a more normalized environment, plus our strategy execution, this business has the potential to more than double the current EBITDA levels. CCS has the greatest speciality weighting and you can see that clearly from its margin performance this year. We have been able to implement our strategy here more quickly, fueling our confidence for further improvement in the short and midterm when volumes recover. In Adhesive Solutions, our challenges are both macro and operational, with the major part of the current gap versus the Eastman deal model is from lower volumes, which we expect to improve. More than half of the division has leading market positions in speciality areas and we are investing to grow. And finally, with global demand for medical gloves continuing at between 6% to 8% per annum, the oversupply situation is now gradually resolving itself and we think that this part of the division can return to growth in 2024. In summary, it has been a very tough year, but we haven't stood still. We have made strong progress to execute our strategy and evolve our business. Our financial platform is materially stronger and we will continue to further reduce leverage in the near term. A very important fact to note. We have taken a lot of cost out of the business and we have increased the margin on materials percentage substantially. This creates significant additional operating leverage when the volumes return. Trading since the start of 2024 has been encouraging and the situation is more positive than it has been in the last 2 years, but we remain cautious in our planning and our expectations at this early stage of the year. Let me stop here, and both Lily and I are very happy to take your questions. Thank you.

Sebastian?

Sebastian Bray of Berenberg Bank. I just have a few questions just on -- firstly, the cash cost facing for business for 2024. If we remove GBP 19 million pension payment, and the roughly GBP 40 million EU fine, are there any other one-off or restructuring style cash effective charges that Synthomer would expect in the year?

No.

That's great. The second question is on the volume development by business area at the start of the year. Across the three segments, which area has seen the greatest recovery in volumes on a year-on-year basis?

They were all relatively similar actually on volumes. The issue is that our margins, and that comes again from the operating leverage that I have mentioned, our gross margin, our margin on materials is much higher in CCS. I think that's why at the end, despite a 19% revenue decline, we still increased our EBITDA margin. I think that's where the difference is. All the others on volumes are roughly 15% -- 10% below 15% on revenues. I expect this to go forward. The other differentiation you can make is maybe less within the divisions is more between Speciality and Base. As I have mentioned, the speciality business is much more resilient, better on volumes, better on margins. And the other businesses are more under attack. You have to do faster in pricing, you have less pricing power. And what was really a problem last year and which I expect to prevail because the Chinese economy is still weak and there are huge capacities have been built. So in our Base Chemicals products, we are really exposed out Chinese competition.

And on the topic of the business that's been affected by competition, the Adhesives Solutions segment, are the reliability issues fixed as we stand today? Or are there still some outstanding ones likely to be [ released ]?

Yes. Unfortunately, no. I promised you last time, I think in August I promised you that we have it resolved by the end of Q1 of 2024. That gives us 2 more weeks. Unfortunately, we still see a few issues. What I can say is that they have improved, that the team has unbelievable focus on resolving these issues. I mentioned that we had six sites taken over from Eastman. The issues in four sites are basically resolved. But there are still two important sites where we do face these issues to continue. We work on it. You don't need CapEx to resolve it, but it is still a lot of operational, very detailed work there to improve the reliability, to get more volumes out, because we are losing, as we speak. We are losing partially, we are losing volumes and profitable volumes. So I cannot say that by the end of the month, we have it resolved, but I can say that we are going into the right direction. But it is probably something that we have underestimated at the time of the acquisition. I have thought that within 12 months, you can resolve it. And unfortunately, that takes a bit longer.

That's helpful. And my final question, Michael, you alluded to the potential to double or more than double Group EBITDA from current levels. But presumably, net of divestments, the composition will change in the absolute EBITDA relative to today might decline on at least for base, because some of the businesses will be sold. If we exclude the noncore contribution that might be divested at some stage, is that a roughly GBP 20 million to GBP 25 million EBITDA level at the moment? Or something is...

Yes. Something like this. That's right. But the idea is to refill it at one point again.

That's helpful.

Some businesses, they were very much dilutive like Lily mentioned, the Paper, Carpet business in the U.S. that was basically loss-making. That's what we closed it. Some other ones are dilutive, so the mix will improve over time. But probably, your GBP 20 million number is not a bad number. But again, the idea is over time to replenish, so to say.

[ Nistha ], Morgan Stanley. Maybe following on from Sebastian's question. I mean midterm, you have a target of reaching EBITDA margins of 15% and you've already delivered quite some progression in the second half. It would just be helpful if you could set up the building blocks that you may think are necessary or that you could potentially put in place to maybe midterm reach the targets? That would be very helpful.

Yes. I think it's really this combination, what you have mentioned, between near term measures, like the excellent savings, operational improvements. The second part is the market recovery with operating leverage coming in straight to the bottom line, especially in the CCS division. And the third element is strategic progress, where Sebastian has alluded to, that means portfolio management. So I think these 3 elements, they should bring us there. Now, we had in last year, we had from 12.1% to 12.3%, an increase in CCS. That is the most speciality division that's probably closest to the profile that we would like to have in 3, 4, 5 years down the road. Now, when you can make, in this totally depressed volume environment, 12.3% EBITDA, I'm extremely hopeful that when volumes are back only to normal, no growth, just back 15%, 18% back, that then you can make 15%. I think I'm very confident in this. The issue is that the other two divisions are behind. But as I have mentioned, we are working on Adhesives and we are working on HPPM. The NBR situation is always a bit of particular situation. I think here we will coming back, but probably not to the levels that we had, the extreme levels of profit that we had during COVID, but even before COVID. But here is also the division where we have most of the strategic initiatives going on.

And then the second and last question. You have seen some improvements in the CCS Coatings business on the volume side. What are you seeing year-to-date? And is there sort of any diverging trends across the regions and maybe some initial trading update. I mean, not on trading, but maybe an order book guidance in terms of what you've seen maybe post Chinese New Year?

Sure. [ Nistha ], I can give a bit more flavor. I think if you talk about the regions, the best-performing region in the first 2 months is clearly the U.S. And I believe this actually to continue for the next 10 years. Now in Asia, it is a differentiated picture. China is weak. I believe China to continue to be weak. The rest of Asia is doing quite well. In Europe, we see some pockets that are interesting and partially because we do have leading positions. We have good positions there. So I believe this will -- yes, this will evolve our time. Also in Europe, we have our advantages. So I think if you look at this, we should -- that's the differentiation. If you look generally, January and February, I mentioned we have reasons to be cautiously optimistic. I think we do have some positive impacts, which we don't know how sustainable they are. Definitely the Red Sea crisis plays well for companies based in Europe, and that is probably not sustainable because this will be rearranged at one point, normalized. And the second one, a lot of companies created cash by the year-end of 2023. That means that in January, you need to restock to a certain degree. And that's why we don't want to call it any type of -- like I said, firm recovery, but definitely in a better position than probably we have been in the last 2 years. So let's see how the next few months play out. For Coatings, the next 2 or 3 months are very important because it's a bit of a seasonal business. So we will see, but in a way, pleased with the first 2 months and the order book is actually for the next 1 or 2 months.

It's Alex Brooks at Canaccord. You quoted 22% of your products coming from either recently introduced products or IP-protected assets. Can you talk a bit about in the current environment, how you're ensuring that, that flow of new products keeps coming for the growth as we go forward?

We do a lot of efforts, and I think even in our balance sheet situation, it hasn't been easy last year. But we do invest in innovation, we do invest in sustainability. We have even upgraded our team. We have hired a Vice President for sustainability. We rearranged a bit our setup in innovation. We do have CapEx of GBP 85 million, close to GBP 50 million go for safety and sustenance. So you do have GBP 30 million, GBP 35 million available even on the CapEx side. We spend about 0.9% on innovation. That's on the low end for the Chemical industries. We are looking to expand this ahead of 1%, but also with this money you can do something. And we put a big effort on, because it is part of our strategy. It's one of the underlying factors. Proof of this are the ratings, what we have gotten. You don't get this for free these days anymore. So I think we are doing the right steps there. The 22% is a good number in the Chemical industry. Usually when you are above 20%, that's good. So I think you can be ensured that -- because we know once we are through the difficult situation and volume come, then it becomes extremely important. And then innovation and sustainability is a differentiator again. I know that some people, they say sustainability, it's a little bit less important in such a difficult situation. I fundamentally disagree with this. I think you have to look the long term approach. Markets will recover. We don't know exactly when and to what extent, but at one point you will be very happy that you invested slightly more in innovation and in sustainability. So we will not budge there. We also consciously know that you don't get a premium by, I say sometimes you get a premium maybe of 10% if you have really a unique product, but you don't get much more. But at one point it will be a license to operate, and that's why we continue to invest. And I feel comfortable that also in our situation we can do what at the end of the day, the clients want.

So just to look back to my point, also guided by our differentiated -- sort of steering one of the pillars in our strategy, and we're very focused on where we spend the money. So from a capital allocation perspective, we're very focused to spend innovation, sustainability money into our Speciality group of products. And the Base business is on cost reduction, process, innovation, et cetera, et cetera, as we always say it.

And then a second question really for Lily. You've obviously had this much succeeded in getting a covenant relaxation again for this year. And you've given us some guidance on finance costs. But what's the quid pro quo? What's it cost you?

You mean the covenant costs -- it's quite consistent with how the market expecting a covenant relaxation to cost normal company. So we're not spending more money than normal to get that relaxation, and thanks to our strong support from our banking group and also the UKEF support.

I want to pick up one more time and Lily answered it brilliantly, but just to reinforce the point, the capital reallocation also not only capital, but the OpEx in a way. This is so important that you can free up money from one area to the other area. And definitely, innovation and sustainability are the benefit. So you don't need more, but you can reallocate. And that's what we're trying to do in a rather ruthless way.

It's Kevin Fogarty from Numis here. A couple of questions, if I could. Just in terms of your sort of guidance for modest free cash flow generation this year. I just wondered if you could sort of put some sort of clarity on that. What does that look like possibly? And to what extent does that depend on sort of positive working capital kind of management this year? Assuming sort of we get back to a sort of growth scenario of some form, do you see sort of strong need for sort of working capital investment for you guys? So just understanding the dynamics there will be quite useful. And then just secondly, in terms of the kind of destocking dynamics, I just wondered, has anything changed in terms of your kind of views of customers inventories at this point? Has it got better, got worse? What are you kind of seeing now in terms of the kind of inventory levels that they're holding?

Yes. I'll take the first one. So yes, as I said, we're expecting even in the condition of macroeconomics does not improve, we expect some modest free cash flow. And if you recall, I talk about operating cash flow conversion about 60% to 70% and apply that to the EBITDA level for 2024. And then we do expect some working capital improvement, continue to see that in 2024. There might be a timing difference between H1 to H2. If you recall, we always have some seasonality in H1 that we build up working capital. And then CapEx will be very similar level to last year. So with that, you could see us having maybe GBP 40 million, GBP 50 million each, sort of free cash flow in the year. And of course, the 2 items I outlined in the presentation, those are outflows in the year. As a result of that, you could see a mid-single digit sort of increase from a net debt position of '23 into '24 and end of the year. But we are expecting, because of the buildup of working capital in the first half, so June position will be higher comparing to the December position.

Yes. I'll take the second one, Kevin. I think we have seen since many months a pretty consistent behavior of our customers. They try to minimize, but still they try to optimize the supply chain reliability issues, and there are plenty of them which are a bit disruptive. I think for December we have seen a destocking because everybody wanted to produce cash. As I said, in January we saw a rebound there. What we see, if we look a little bit further out the next few months, I think there's some cautious optimism not only with us, but also with our peers. If I read the reports and with our customers, I believe there's a little bit more of inventory is being built up in anticipation of a certain recovery of the market. I think that's one item. The other issue is also the supply chain reliability. I think, people are more ready than probably last year to invest a bit more into this reliability. But I would say everything on a very cautious, low flame situation right now, but a pretty consistent picture over our main end industries.

Can we go to the telephone lines now to see if we have any messages there?

[Operator Instructions] We have our first question coming from Chetan Udeshi from JPMorgan.

I was just wanting to touch base on your previous comments about cautious optimism. And I'm just trying to understand why is there a reference -- or why there is a reference to cautious optimism. Is that because you've seen good first 2 months of the year and maybe the order book is not showing that as a sustainable trend? Or is it just because, I mean, to be fair, we've all got it wrong last year by being too optimistic? And maybe you just want to see a bit more, let's say a couple of more months of trading before you essentially call it a turn of the cycle. And just a related question to that was, if I look at your progression on earnings through 2023, you did about GBP 70 million odd EBITDA both in first half and second half. And as we think about first half of this year, given the improved trading, given some benefit from ongoing cost optimization, could the first half not be at least something like close to GBP 90 million or more? Or how are you thinking about just the phasing as we think about the earnings in first half coming out of second half of last year?

I will take the first part, but Lily will answer you the second one also in a very cautious way, Chetan. On the first one, I think I can really say that our company did not join this general chorus last year of Principle of Hope, because we didn't see it. We had absolutely no proof points at all. And this year we do use the words of Cautious Optimism. I think the word optimism is based on that we did have some improved trends in January and February. When we speak to our customers, we do see some improved trends. So we do see facts, we do see numbers, and we do see conversations with our customers. Why cautious? I mentioned it, because I think it's just too early to call any recovery after 2 months, after what we have been through in this industry over the last 2 years. I think geopolitically there are many, many risks there. I think in the consumer demand we didn't see an upswing. I think, China is still in a very difficult situation, very difficult, and that plays a big role. So I think cautious is absolutely the right word. But I still would like to differentiate. We didn't use them last year. And so, I really refrain all the time for the Principle of Hope, this you will not hear from us. When we say something a bit more optimistic, we mean it and we have grounds to say it. The Principle of Hope doesn't work with us.

Yes. And Chetan, thank you for your question. The second part is first half of 2024. Look to Michael's point, on one side, we've seen the couple of months trading, this year has been encouraging. But at the same time, we also mentioned we're very cautious in terms of our planning. If you do see 20 over 70, that's quite a substantial improvement. Our current planning assumption is there might be -- there will be some improvement, but that's coming from our self-help actions, from a cost program. But we will not guide a substantial improvement in the 30% in the first half year-over-year. So at this moment of time, give us a couple more months to see the trend.

We have no further audio questions at this time. I turn the call back over to the hosts.

So we have two questions from the webcast. I think, I suspect one for each of you. The first is you referenced three divestment processes underway. Is there any update you can give on the timing and the value of those together? Do you want to take that one?

Yes. I can say, I mean, if you have a formal progress, which we are confirming, that means that within a few months you should come to your resolution. I hinted in my speech that we would like to see progress in the first half. I think last year we did the Films and Laminates business in February. I think that was a very successful transaction. We wanted to be honest, to do a few things towards the end of last year. But you have to realize the M&A market is just very difficult at this moment in time and it takes much longer than usual. I wouldn't even refer so much on the multiples being much lower, but I refer the timing, the due diligence. All the timings takes much longer than I would say, 3, 4 years ago. And again, we are not selling anything below the fair value. We could have done deals last year, but we didn't because our businesses are all good businesses with a value, and we don't go below this one. So to answer your question, it's not possible. It's always M&A. You never know. But I really hope that, like I said in the speech, that in the first half we would have some interesting and positive news.

And then the other question was, what update can you give in relation to the boundary financing in terms of timing and intentions?

So as we said in the release, we intend to refi in the course of 2024. I think that's as far as I can say it here.

And that's all the questions we have.

Good. Thank you. Anything more in the room that came back? No? Good. Thank you very much, everybody.

Thank you.