VAT Group AG (VACN) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the VAT Half Year Results 2021 Conference Call and Live Webcast. I am Alice, the Chorus Call operator. [Operator Instructions] The conference is being recorded. [Operator Instructions] At this time, it's my pleasure to hand over to Mr. Mike Allison, CEO of VAT Group. Please go ahead, sir.

Thank you, and good morning, ladies and gentlemen. Thank you for joining our webcast on our Q2 and half year 2021 results. As you already know, VAT had pre-released preliminary figures, including orders, sales, EBIT and EBITDA margin already on the 15th of 2021. And as you can see, the final numbers are well in line with what we announced back then. Due to the persisting COVID-19 situation, we can unfortunately still not meet you in person. But we hope this situation is going to normalize soon and we can get together later in the year at the various conferences that we will attend. Today, I'm delighted to be joined on this call with our CFO, Fabian Chiozza, who joined VAT on April 1st, and also our Head of Communication and Investor Relations, Michel Gerber. So on Slide 2 and looking at today's agenda, we'll cover the following 3 parts before going into Q&A session. I'll start with the highlights of the Q2 and half year results. And then Fabian will go through the results and financials in more detail. I'll then conclude with a look ahead, followed by the usual Q&A session. On Slide 3 of the presentation, you can see our results. As we communicated back in April, with our Q1 trading update, VAT started the year with a strong business and operational execution in our first quarter. This strong performance further accelerated in the second quarter of 2021, when VAT not only harness the opportunities presented by the strong market trends in the semiconductor and service business, but also achieved a record quarter in the Advanced Industrial business unit. The group's order intake broke another record level, beating the previous record set in Q1, as all our businesses experienced growth momentum, strongest being in Semiconductor followed by Advanced Industrials, Global Services and our Display & Solar business unit. This strong order momentum, together with an already impressive order backlog at the end of the first quarter, allowed VAT to post another record quarter in sales, EBITDA, EBITDA margin and free cash flow. These records were achieved despite an FX headwind and material cost increases. At the same time, the COVID pandemic really had limited impact on our operations. And I'd like to thank our outstanding workforce who continue dealing with the challenges that the pandemic brings in a really exemplary way and with incredible resilience. My thanks also goes out to our suppliers who reacted well, not only to the pandemic challenges, but who are working really day and night to address the supply chain bottlenecks during this unprecedented growth phase, especially in the semiconductor markets. Operationally, we again delivered a very strong performance with the ramp of our factory in Malaysia, and they're fully on track to achieve close to CHF 200 million of output in 2021. And at the same time, they're getting ready for a further large increase in 2022. Our factory in Haag also reacted quickly to add additional capacity and is now producing at record levels. In the last few years, we have significantly restructured our supply chain team and their performance in the last quarter contribute highly to achieving these strong results. There's no question that the supply chain will be our #1 challenge in the second half. So I'm really happy to have this very competent team driving our critical issues. Our market assumptions for the rest of 2021 remain very positive, and we expect substantially higher 2021 results, including sales, EBITDA, EBITDA margin and free cash flow and net income. Last but not least, and confirmation of VAT's outstanding market position and technology leadership, we continue to increase our market share across all industries in the first 6 months of the Year, from 55% to 58%, a really fantastic development, which I will comment on later. Moving to Slide 4. The chart gives you an overview of the half year key figures and segment breakdown. Valves, our largest segment accounted for about 81% of our sales, up 29% year-on-year and based on the strength of the semiconductor equipment market. The 6 months EBITDA margin in Valves increased by 2.4 percentage points to 33.4%. Global Service sales also achieved a record level in the first half of 2021. Overall, the segment grew 40% year-on-year driven by the upgrade business, which really gained momentum with 42% growth. The maintenance and repair business also grew an impressive 50% and spare parts were just shy of 39% growth. The Service segment's half year EBITDA margin increased to 45% compared to 40% a year earlier, benefiting in the recent introduction of new products and higher volumes. With this strong performance, our Service business accounted for 19% of group sales, very close to the 20% we're aiming at. This is even more impressive if one considers that the Service business typically shrinks as a percentage of overall sales in a semiconductor growth cycle. For the group orders, net sales, EBITDA and EBITDA margin and free cash flow were substantially up in the first 6 months of 2021, and Fabian will give you more details in a few minutes. We also saw a satisfying increase in our spec wins, up 21% year-on-year. This is not only an indicator for future business success and market share gains but even more proof that our close collaboration with our key customers, coupled with our world-class innovation team consistently delivers products and solutions that solve their biggest technology challenges. This is a win for VAT, but more importantly, a win for our customers. Slide #5, you'll see the split of our revenues into different market segments. We showed you this chart at our Capital Markets Day last year, and you will notice that we have since included the Industry segment into the Valve segment, specifically into the Advanced Industrial segment. We are also now providing more detail across the individual business segments. In 2020, Semiconductor accounted for roughly 70% of our business, and this number has now increased to 75%, by June 2021. Advanced Industrials now accounts for about 15% of our business, reflecting the strong performance in 2021 after the challenging business conditions experienced in 2020, at the height of the COVID pandemic. Display & Solar, currently is our smallest segment with approximately 7% of group sales. From a geography point of view, more than half of our products and services end up in Asia, about 1/3 in the U.S. and the rest in Europe, reflecting the global semiconductor footprint. Turning to Chart 6 and coming back to our market share gains in 2021. As I mentioned earlier, we continue to grow market share across all industries by 3 percentage points from 55% to 58%. And our market share in semiconductor now reached 74%, after being 70% at the end of last year. There are 4 key reasons for the success in this area. First of all, we are the clear technology leader in an industry where rapid innovation is absolutely critical to success. Second, we continue to invest heavily in this technology leadership and the 21% higher spec win number during the first 6 months of 2021 compared to last year will allow this market share trend to continue. Third, we have a long track record of working closely with our customers to develop the products they need and to deliver them when they need them. We're a reliable partner in a capital-intensive business where there's little room for error. Final point is our increasingly global footprint and value chain, which makes us faster, more flexible and a more reliable supplier. I believe our performance for the COVID-19 pandemic shows that we can continue to deliver even in a difficult and unpredictable business environment. So Slide #7. Before turning to the more detailed financial slides, let me quickly summarize the 6 months 2021 market development and putting our performance into perspective. In semiconductor, the growth in wafer fab equipment spend accelerated at an unprecedented pace and is now expected to be around $85 billion for the full year 2021, well over 30% higher than in 2020. This growth is occurring across all market segments, foundry, logic, NAND, DRAM and others, which highlights the strong impact of digitalization across all sectors and products. Technology intensity is also driving a higher spend per wafer, which in turn is driving higher investment level in the below 7-nanometer nodes, which you can see later in the presentation. In fact, the 7-nanometer and below segment will really accelerate wafer fab equipment spending in 2021, driven a lot also by EUV. It's important to understand the uptake of EUV into DRAM and this increasing device and process complexity will also increase the capital intensity of this device segment. I believe this will help with the sustainability of wafer fab equipment spending just as we saw in advanced logic and foundry in recent years. In display, fading LCD CapEx could not offset -- or could not be offset by somewhat higher investments in OLED for flexible screens and handhelds as large format OLED becomes or remains a challenge. Solar continues to grow and should continue this path into 2022. The solar PERC technology remains the major investment area. However, heterojunction continues to make advances. For the advanced industrial markets, growth prospects improved across a variety of applications such as advanced coatings, scientific instruments and automotive. In addition, research spending by governments continued, especially in the U.S., Japan and Korea. So this concludes my initial remarks, and I'd now like to hand over to Fabian for a more detailed look at the financials.

Thanks, Mike, and a warm welcome to all of you who are joining us on the webcast today. Let's start on Slide 9 with a very quick recap of our key figures. Mike has already touched on the good top line and EBITDA development, and I'll show you a bit more detail on that in a moment. The highlight in the first semester of 2021 is clearly the free cash flow generation, reaching a new 6-month record level of CHF 61 million despite growth-related investments in working capital and the slightly higher CapEx level compared to the same period a year ago. This allowed VAT to reduce its leverage, which at mid-year stood at 0.8x compared to 1.3x at the end of June 2020. Chart 10 shows the development of orders in the second quarter and half year, respecting VAT's strong business execution, coupled with the buoyant market conditions in the Semiconductor business and the economic recovery in the Advanced Industrials business, that Mike described earlier on. Q2 orders are up 5% sequentially versus Q1 2021 and are 43% higher than in the second quarter in 2020. For the first 6 months of the year, orders are up 38% year-on-year, reaching CHF 494 million. With a second quarter book-to-bill ratio of 1.13, our order backlog also increased compared to the end of the first quarter and stands now at CHF 218 million, up 13% quarter-on-quarter and up 42% year-on-year. This backlog strongly supports our positive expectations for the second half of 2021. Turning to Chart 11. Here, we see the development of orders and sales since the first quarter of 2018. We reached the bottom of the cycle in the first half of 2019. And since then, we've seen a steady and accelerating growth trend. As you can see, the book-to-bill ratio has been at or above 1x since Q1 2019 with the exception of Q3 2020, where we had a knock-on effect from certain preorders in the first half of 2020, coupled with substantial sales growth in the quarter. In the first quarter of 2021, the book-to-bill ratio peaked at 1.25 and remained at a very healthy 1.13x in the second quarter. The decline in the book-to-bill is not the result of slowing order momentum, but rather of the accelerated capacity ramp at VAT in response to technology advances and investments in additional chip manufacturing capacity, demanding higher factory output and thus enabling increased sales numbers. Chart 12 shows the development of net sales and EBITDA. Half year sales are up 31%. Adverse year-on-year FX movements, especially in U.S. dollar versus Swiss francs, had a negative impact of about 5 percentage points in the first semester 2021. The higher sales were a major driver of an EBITDA margin expansion of 4.2 percentage points, together with the improved operational performance, resulting from better fixed cost absorption and the efficiency and cost reduction programs. We continue to execute across the whole organization. These programs are aimed at making all our internal processes faster, more efficient and scalable to allow VAT to quickly adapt to changing market conditions and thus avoiding the higher cost traditionally associated with sudden adjustments of production volumes. This agility allows us to continue investing in our future success. For example, the implementation of a new global ERP system, increases in R&D spending and to make the people investment in Malaysia without negatively impacting our EBITDA. VAT flawless execution of the Malaysia ramp with high quality and high predictability is essential for meeting demand today and in the future. On Chart #19 -- 13, you see the sequential EBITDA margin development since first half year 2018. As you can see, we have constantly improved our EBITDA margin since its cyclical trough in the first half 2019, and are moving towards the upper end of our target band. During the first half of 2021, VAT recorded a record EBITDA margin of 33.9% or 4.2 percentage points above the previous year level and 1.1 percentage points above the margin we achieved during the second half of 2020. With this development, we are very confident about our 30% to 35% target plan between 2020 and 2025, that we communicated to you at our Capital Markets Day back in December. When talking about value creation in the next slide, we closely look at the return on invested capital and the cash return on invested capital. With our prudent approach to CapEx and our CapEx-light business model, we balanced the invested capital with current and expected future earnings. With 70% of our materials being purchased externally, we are able to maintain the invested capital at low levels. This allows us to achieve returns on invested capital and cash flow returns on invested capital that are substantially above our weighted average cost of capital, which we placed at 10.9%, the same level that the external auditors used during their 2020 impairment testing. Let's now turn to some other financials on Chart 15. Depreciation and amortization are about the same level as during the first 6 months of last year, yielding in an EBIT of CHF 121 million and the corresponding EBIT margin of 29%. Net finance costs were of CHF 2.5 million for the first 6 months, a substantial reduction versus the CHF 10 million recorded in the first 6 months of 2020. This reflects the absence of foreign exchange losses recorded on loans and bank balances in 2020. The effective tax rate for the first 6 months of 2021 was at 16% compared with 14% a year earlier. The change in effective tax rate was mainly caused by higher volumes from foreign production sites where statutory tax rates are regularly higher than in Switzerland. So taking that all together, net income increased by 78% to CHF 99 million and an earnings per share of CHF 3.31. Our free cash flow generation is shown on Chart 16. As I said at the beginning of my remarks, free cash flow reached another record level in the first 6 months of 2021, despite slightly higher CapEx and additional investments in trade working capital to support our growth. The trade working capital at the end of June 2021 also represented about 28% of net sales and above our midterm target level of 20% of sales. At 43%, the cash conversion rate measured as free cash flow as a percentage of EBITDA showed the seasonal lower level, and we expect it to be firmly within the target band of between 60% to 65% of EBITDA as communicated at our Capital Markets Day for the period between 2020 to 2025, for the full year of 2021. When it comes to leverage on Chart 17, there's further improvement in net debt compared with 2020. Gross debt declined as we were able to reduce the drawings from our credit facility despite the payment of the dividend in May and some investments in trade working capital. At CHF 208 million, net debt was about 10% lower than a year ago. Our leverage of 0.8x net debt to EBITDA was at the lowest half year level since the IPO back in 2016 and below the target level of 1x average over the year. With this, we have a very sound balance sheet and liquidity position available, which gives us additional financial flexibility during this growth period. When summarizing the half year 2021 financial performance, we can state that VAT continued to fully capture the strong market conditions, both semiconductor, which includes our Valves and Service business and Advanced Industrial activities based on innovation, market leadership and execution skills. Record levels were achieved in orders, sales, EBITDA, EBITDA margin and free cash flow in the first semester of this year. Order backlog and ongoing market demand during July bode well for record full year results. For the rest of 2021 and into 2022, the following financial priorities apply. Our ERP introduction is on track. However, certain COVID-19-related delays have to be recovered and our focus is on the prevention of any production output interruptions during launch at major production sites in Malaysia and later on in Switzerland. Continued focus on cost and productivity improvements and trade working capital optimization, despite ongoing growth. However, we are conscious that supply chain challenges may require a slightly higher working capital levels to guarantee business continuing. Our midterm target of 20% of net sales remains in place. Last but not least, our disciplined approach to CapEx expected around CHF 40 million to enable the productivity improvement, whereas we are conducting a comprehensive capacity review during our strategy process now in the second semester of 2021. This concludes my financial remarks, and I'd like to hand back to Mike.

Okay. Thank you, Fabian. So let's move on to Slide 20 and look at the market expectations for wafer fab equipment spend in 2021. You may remember that back in November 2020 at the Capital Markets Day, at that point, we were forecasting around $58 billion in WFE for 2020. And in fact, the final number for that year turned out to be CHF 65 billion. It just shows how fast spending can change in semiconductor and how agile our business models need to be. Also at that time, we were forecasting CHF 64 billion for 2021. And now that has increased to CHF 85 billion, representing more than 30% year-on-year growth. Within that CHF 85 billion, all node sizes are expected to grow substantially in 2021, with the leading edge nodes posting the strongest growth at around 60% year-on-year. You can also see in the chart that spending going into the legacy nodes to address many of the current chip shortages, which are driven by a very fast industrial recovery. Those legacy nodes also include NAND spending. This growth pattern plays into VAT's technology and market leadership and will allow our semi and service businesses to outgrow overall WFE spend in 2021. Across the different chip types. There's quite even split of growth rate between 27% in foundry, 40% in logic and both memory types in the mid-30s. On Slide 21, for VAT, 1 key success factor remains our strong innovation capability, allowing us to constantly set the bar higher and to define new industry standards when it comes to valve technologies. Our 6-month spec win number is up roughly 21% over 2020. We have further strengthened our R&D organization to increase the focus on our strategic initiatives and to develop our adjacencies such as modules, motion components and smart components. This focus on adjacencies is developing according to our expectation. Year-on-year, our adjacencies have grown by about 65% and today, already represented about CHF 20 million of sales. The very strong market development in semiconductor investments is expected to generate additional potential above the previously communicated levels. Slide 22. As we look into the rest of 2021, what type of market outlook should you expect? In semiconductor, we now expect to see more than 30% market growth driven by higher investments in all IC types. Investments into leading-edge technologies will be the main driver, more than doubling the volume compared to 2020. We expect to grow our service business well above this 30% level as our share gains are expected to continue and adjacencies take hold. In the first half, you can also see that semi grew 40% versus last year. Service market is expected to grow in excess of 15% in 2021, which is significantly up on the [ 4% to 6% ] expectations we had early in the year. The growth will come from all of our subsegments. As a result of our fast-growing installed base, we now expect to grow again much faster than market. And you can also see, in the first half, services grew 40% year-on-year. In Advanced Industrials, we will see a market recovery across all sectors in combination of global market rebound and accelerating growth in China. While the overall market is expected to grow by low double digits, our share gains and movement into new sectors will add a few additional points of growth above market. You can also see we grew 37% in the first half versus last year. Display will have a challenging year as we come off the LCD peak, and we expect only the mobile OLED sector driving investments together with mini LED and micro LED starting to become more visible in the premium TV and IT segments. Overall, the market is expected to be down more than 20%. In the first half, you can see we were down 26%, but we expect to get closer to the market level in the second half of the year. In solar, we expect approximately 10% market growth with equipment spending at around 15%. Overall, we are very optimistic about the rest of 2021 and as the industry continues to be supply limited, we believe this strength will continue through 2022. Slide 23. So what does this mean for VAT? Overall, we look forward to a positive business development in the second half of 2021. Global semiconductor CapEx outlook remains positive and industrial recovery is expected to continue. Supply chain challenges remain a factor of uncertainty over the coming months, and we have factored this into our Q3 guidance. Not only do we have the risk in our own supply chain, but we also see the potential of disruptions across the wider industry. Despite these challenges, VAT expects half 2 results to be higher than the first 6 months of the year. For the fiscal 2021 net sales, EBITDA, EBITDA margin, net income and free cash flow to be substantially above 2020. 2021 capital expenditure should be approximately $40 million. For the Third quarter, we expect sales of between $220 million and $230 million. I would point out, unfortunately, there was a typo in the presentation we sent out this morning but the guidance was at $220 million to $240 million instead of $230 million, I apologize for that. So what can I tell you about the start of 2021? So far, the third quarter has continued at the record pace we saw in the second quarter, especially in the continuation of very strong order intake, not only on a year-on-year basis but also compared to the second quarter of 2021. So this already bodes well for the third quarter and the second half of 2021. So with this, I conclude the formal part of the presentation, and we'll turn over to the Q&A session.

Thank you, Mike. We'll now start the Q&A session. [Operator Instructions] With that, I would like to ask the operator for the first question from the call.

[Operator Instructions] The first question comes from the line of Sandeep Deshpande with JPMorgan.

I'm trying to understand, I mean, what is the extent of the supply shortages you face? What are the problems you're facing at this point into the third quarter? And what will change into the fourth quarter to relieve those supply constraints that you have? And how you are seeing -- I mean, clearly, the order environment is incredibly strong at this point. And how you are seeing this order environment potentially develop through the second half or you don't have visibility at the end of how that order environment built through the second half? And I have a second question on your display business.

Okay. Okay. First of all, on output. First of all, I would say that from a people standpoint, we're in good shape. We've ramped up considerably our headcount at both our locations, 78% increase in Switzerland and close to 90% in Malaysia. So we put the people in place in our manufacturing operations to drive the type of growth we need for the order intake you're seeing. The challenges in the supply chain are really broad-based. You've heard a lot about the chip shortages. We see the same thing. And it's not in any particular category. And I would say the issues we're having are sporadic things like suppliers not meeting the committed deliveries. It's changes in lead times. It's a whole bunch of generic issues that are more disruptive, than really causing total shortages. And we have a very high mix of products. And that caused us a lot of inefficiencies in our manufacturing operations. I would say that it's getting slightly better. We're working those. We've got a lot of second source is now in place for components where we saw bottlenecks. And we expect the electronic supply chain, at least on our current view to improve into the late third quarter and into the fourth quarter. Also in the supply chain, raw materials is a challenge. Our use of aluminum has dramatically increased, as you can imagine, with the change in output. We're pretty well covered to the end of the year, but we've seen, for example, a few delays in supply even although we're confident we'll get the total amount we need for the year. So I'd say it's more of the unpredictability of supply that's causing an issue and supply across all the commodities, we've seen gaps in resin supply that we need for our ceiling, our valve seal technology. We've seen issues on plastics. We've even seen problems in packaging. So it's creating a lot of inefficiencies across the supply chain. And that's why we've given ourselves a bit of room for the third quarter. But we're pretty confident as we grow and as our suppliers react to the shortages that we will continue to see a higher output as we go through the year. In terms of order intake, as what Fabian and I mentioned, we're continuing to see strong order intake in July. At this point, because of the growth we've seen in the second quarter and start of the third quarter, it's quite hard to predict what that's going to look like in order intake for the rest of the year. The only thing I can say is that the outlook from the OEM community and the end users looks extremely positive. So we believe that the chance of increasing order intake is pretty high for the second half of the year.

Understood. The second point is on the display market. I mean, can you comment on display market versus how the order intake and the environment is in the semiconductor market?

Yes. I mean the order intake in display is really at the trough. We're starting to hear that there may be more momentum into 2022, driven really by some of the shortages, even in large panels. So we may see some additional investments in LCD at the beginning, first half of 2022. But there still isn't clear direction on large-screen OLEDs and what that's going to mean for CapEx spending in '22 and '23. The best estimates I have right now from some of the OEMs is that we would expect to see a return to higher spending in 2023. So I'd say continuing troubles in that industry and really, I think, some technology challenges as well.

The next question comes from the line of Robert Sanders with Deutsche Bank.

My first 1 was just if you could talk about -- you talked about spec wins, I think, up 21% year-on-year. If you could just talk about the value per spec wins, how that's increasing? Given so the increased added value, but also given the unit cost inflation that's clearly driving up your cost structure? And then I have a follow-up.

Okay. Yes. As you can see, our spec wins are up 21%. I don't think it's changed dramatically from a value perspective. A difference we're seeing right now in the spec wins is they're on a broader base. They also include many more of our motion components, which are certainly lower dollar value per unit than, say, our major control valves and so on. So there's a much bigger mix of spec wins. These are critical, however, for us to build adjacencies. And you can also hear the comments I made about the adjacency growth is substantially up on, I think, a 65% year-on-year basis. So we committed last year to deliver in the period of our strategic plan, more than $150 million in adjacencies. And I think we're more than on track to overachieve that. The unit cost inflation, we manage pricing pretty tightly, as you can imagine, given the consistency of our gross profit margins. We work very closely with our partners to ensure we're giving them the maximum value, and we try to optimize our margins in doing so. So we take the cost into consideration. We take material costs, we take FX. We look at all of this. We look at the competitive situation. And we come out with the right value proposition for VAT and our customers. So I think that's all positive. It's going in the right direction, and it gives me good confidence that we'll continue to achieve our EBITDA margin goals.

Just relating to the OEMs, some of them are clearly now offering more generous payment terms in order to suppliers, in order to derisk the expansion, which is obviously in some cases, very significant. So are you seeing any change in terms of trade with you guys or perhaps building more inventory for a longer period than they have historically? Have you seen any change there?

Yes. I don't think we're seeing much from an overstocking standpoint, I think we -- in the first quarter of the year, there was definitely a higher level of stocking happening. I think we've kind of reached equilibrium there now, and we're really at a true demand level in Q2 and into Q3. We have our own contingency plans in terms of how we manage the supply chain. So we're already making our own investments into our most important components like electronics components. I mean one of our learnings from this last pandemic and the material shortages is that where you have a single point of failure, for example, a microprocessor that is not substitutable in the short term, that we need to keep longer inventory periods for these critical components. So we're already addressing that. We're also discussing with our OEM partners, our next capacity expansion. I think we've been pretty transparent on our -- our current footprint gets us to about CHF 1.1 billion. And with the rate of growth we're seeing, obviously, we need to make provisions probably faster than we had originally expected. So we're discussing that with OEMs. And I would say the level of flexibility between the OEM community and the component makers like ourselves is really high. They're reacting very quickly to requests for changes, which historically have taken 3 to 6 months to get a change through a component change qualified. But they're reacting much faster and more favorably to that. And that's allowing us together to meet the supply chain challenges. So I think the level of cooperation is extremely high level. But we haven't seen any specific need to ask for extended payment terms and so on.

The next question comes from the line of Michael Studer, [indiscernible]

Two questions, 2 financial questions actually. You mentioned the 5% headwind on -- from FX on revenues. I was wondering if you could give us an indication what the FX impact on your EBITDA margin was? And whether there is any chance that you see the 35% upper limit of your target range moving higher on the back of the strong developments? And the second question is regarding your free cash flow generation in the second half. You mentioned net working capital development. Can you be a bit more specific what you expect in the second half? Will the net working capital intensity go further up? Or will we see an acceleration in free cash flow in the second half of the year?

Good. Thank you very much for your question. On the FX effect, as we said, we had roughly 5% on net sales. However, on the EBITDA margin, it was flat. So there, we didn't have any adverse effect. On the target band for the EBITDA as the 30% to 35%. I think we are now certainly hitting the ceiling of that band. However, I think we need to point out that even if we see slight improvements in the second half this year, we will continue to invest in capacity, technology but also in people, which would certainly allow us then to facilitate further growth. Also, I would like to add what Mike has already alluded to that, obviously, the whole industry is facing material price increases. However, we at VAT, we are quite successfully managing these increases with our cost reduction and continuous improvement programs that we put in place back in 2019, 2020. And therefore, I expect that we should contain most of the adverse effect. Regarding your second question on the working capital, I do see some potential for reduction for the second half year as we continue to build our capacity. However, as I said in my earlier remarks, I would expect a certain increase over the 20% midterm target band, given the unpredictability that we currently see in our supply chain.

So free cash flow should accelerate in the second half?

Yes. As you know, at VAT, our second half year free cash flow generation is typically substantially higher than in the first half. And therefore, I also assume that we will have quite a substantial increase, which will then lead to a record free cash flow for the year 2021.