XP Power Limited (XPP) Earnings Call Transcript & Summary

Good morning, everyone. Thank you for joining us today whether in-person or via the webcast. As usual, we start with the presentation, then move to Q&A. [Operator Instructions] Thanks very much. Right. I'm pleased to be here with Matt Webb, our CFO, who joined us in September. And just to upfront, 2023 was a challenging year for XP, particularly the second half. However, we did continue to make good progress on our strategic priorities. Thank you. We'll cover the challenges as we see them, what we're doing about them and then highlight some of the positives that we saw in the year. So turning to the highlights. Orders at GBP 209 million for the year were soft. The semiconductor market remains depressed ahead of the next upcycle. And in Healthcare and Industrial Tech, we saw reduced orders as our lead times came down through the year. Then at the end of '23 and in early 2024, we saw customers actively start to reduce inventory levels, built up during the supply chain disruptions that we've seen over the last 3 years as overall confidence in global supply chains improved. Shipments, reported revenue was GBP 316 million, 9% of the prior year driven by double-digit growth in Industrial Tech and Healthcare as we shipped the customer backlog that we've built. Operating profit came in at GBP 38 million, impacted at the year-end by some noncash product development charges that Matt will expand on. Net debt is down 25%, driven by the equity raise in October and inventory reduction, particularly in the fourth quarter, driving down strong -- driving strong cash conversion. I also just wanted to highlight upfront some of the areas where we are making progress. We had another strong year of design wins and ongoing strong sampling. We launched 11 new products and have a full new product pipeline that will be coming to the market in the next 12 months. We're making good progress in high-voltage area and seeing good performance in our existing -- both our existing business and the FuG business we bought in early 2022. And finally, on sustainability, we published our Transition Plan in the year and our targets approved in February by the science-based target initiative. On that note, I'll hand over to Matt to go through the financial performance.

Okay. Thank you, Gavin. Good morning, everyone. Just before I take you through the detail of the financial performance, I just wanted to pull out some of the key financial highlights. So for XP, 2023 was a year of healthy revenue, which came in at GBP 316.4 million, that was 9% higher than the year before, thanks to an improved manufacturing and supply chain performance, which allowed backlog to be cleared. The growth was weighted towards the first half. Order intake, as Gavin has said, slowed to GBP 208.8 million, reflecting normalization after 2 strong years, as well as the expected slowdown in the SemiFab equipment industry. Gross margin was protected from input cost inflation. And operating margin reduced to 12% as overheads grew faster than revenue, albeit steps were taken in the second half to address this. The reduction in operating margin left operating profit slightly down year-on-year. This result included some accounting charges related to product development costs that I will explain later. And without which profit would have been broadly flat year-on-year. Adjusted diluted EPS came in at 81.8p, that's 49% lower than the year before, reflecting increased interest costs and a higher tax rate, and I'll explain the tax side of things later. But the most encouraging aspects of the performance was operating cash generation. We converted 173% of our operating profit into operating cash, thanks to tight control of working capital. This, combined with the benefits of our recent funding plan left net debt 25% lower than the year before. Okay. So let me describe the operating profit performance in a bit more detail. As I mentioned, revenue grew by 9% with currency movements having very little impact overall. This progress was a function of 24% growth in H1, followed by a 2% decline in H2, as we began to experience the effects of the SemiFab equipment market slowdown and as we approached tougher comparatives. I'll setout the growth by sector later. Revenue growth came equally from price and volume. Price increases helped to offset the residual impact of input cost inflation, keeping gross margin flat year-on-year. The input cost inflation in question mostly originates from 2022 and prior, when both component prices and sea container rates were at a COVID-induced peak, long component lead times and a lengthy stock holding period, have delayed some of the profit impact of this until 2023. Adjusted operating profit came in at GBP 38.1 million after recording GBP 4 million of noncash accounting charges. So let me just explain those. As many of you know, we are obliged by accounting standards to capitalize product development expenditure, where we believe the project in question is technically and commercially viable. Product development is central stood to our strategy and overall very successful. My review of this area at year-end identified a very small number of customer-specific development projects totaling GBP 1.9 million, which needed to be impaired because the customer had recently canceled their own development activity. My review also recommended that the amortization of capitalized costs be triggered slightly earlier to match it more closely with the revenue generated from the sale of the products developed, adding GBP 2.1 million to the full year amortization charge for 2023. The increased rate of amortization is likely to continue. But keep in mind, we were always likely to face this increase in the near future, regardless. Finance costs increased to GBP 11.5 million, reflecting increased average debt and an increased base rate. The tax charge from our year-end tax computations was higher than we were originally expecting, equaling an effective tax rate of 37%. So let me just explain this. Historically, our tax structure has meant that we make most of our profits in Singapore where taxes are low. This is normally, of course, a good thing. But in our case, the unintended consequence is that it has left our U.S. business making a taxable loss. The accumulated loss has grown over the last 2 years due to the Comet legal settlement and also increased interest costs on our external borrowings, which are currently paid for by our U.S. business. In order to use these losses to reduce the tax we pay, we need to change our tax structure to increase the profit that we make in the U.S., which will take a bit of time. In the meantime, our tax rate will remain slightly higher than before, albeit lower than the 37% that we saw in 2023. And I'll explain our guidance on this in a second. Okay. So just turning to orders on the next slide. We saw intake reduced by 43% to GBP 208.8 million. The most significant reduction was in the SemiFab equipment sector, reflecting an industry-wide cyclical slowdown after 2 strong years. Intake levels in this sector broadly stabilized in the second half. Intake within the Industrial Tech and Healthcare sectors fared better, although we did see a slowdown in both later in the year. Initially, we attributed this slowdown to the actions we were taking at the same time to reduce our published delivery lead times, which we're giving our customers the opportunity to simply place their orders later, closer to their intended delivery date. Shortening lead times in this way will always suppress order intake temporarily. We expected this impact to end in early 2024, as our lead times reached a minimum. When it didn't, it became clear to us that our customers in these sectors were not just simply ordering later, they also wanted less product because as it turns out, they were overstocked. This gave rise to our Trading Update on the 16th of February. These recent trends have also been seen by others in our industry. Gavin will explain how this impacts our expectations for 2024 later. Absent the impact of channel destocking, we believe the underlying end market demand in these sectors is more robust than our current order intake trends suggest. Okay. I mentioned earlier that the revenue growth we delivered for the year came in the first half, and you can see that on this slide. So revenue grew by 24% in H1. Effectively, we carried the extra momentum provided by improved supply chain performance in H2 2022 into H1 2023, and that allowed our backlog to be cleared supporting revenue. At this stage, the slowdown in the SemiFab equipment sector was modest. It began to impact our growth more in the second half, as you can see here. The other 2 sectors remained in growth throughout the year. Okay. So where does this leave us in terms of our overall order book? While it reduced by GBP 116 million to GBP 192 million by the end of 2023. There are a number of reasons for this, which are listed on the slide. Firstly, of course, clearance of backlog, as I've mentioned; secondly, shorter delivery lead times, which will always reduce the size of your open order book; thirdly, in the first half only, we did see some isolated cancellations of orders placed in earlier years, which, of course, we always try to resist. And then finally, slower activity levels in the SemiFab equipment sector and more recently, from customer destocking, which again, will always reduce your order book size. Needless to say, as you can see in the chart, we have seen some very unusual trends in our order book over recent years, as COVID has disrupted normal demand and supply patterns. We expect our order book to normalize in the first half, which says our lead times are back to where they need to be to serve the customer. Okay. So let me quickly cover the operating profit bridge. Firstly, note the strong operating flow-through from that revenue growth. So that added GBP 11.2 million to profit. Over time, this dynamic can be harnessed to drive long-term margin expansion. In 2023, a little too much of this extra profit was absorbed by overhead expansion. So therefore, we took steps in the late 2023 to correct this via the restructuring actions included in our funding plan. I've got an update on the funding plan later. We also used some of this profit to invest in product development, which is, of course, essential to drive long-term growth. Gavin will update you on our progress in this area later. Some of the increase here was also due to the noncash accounting charges that I mentioned earlier, of which GBP 1.9 million, as a reminder, was one-off. We also experienced an FX headwind totaling GBP 3.5 million as a business that transacts largely in dollars, but reports in sterling, we will always face some translational FX movement. But the quantum here is unusual and therefore unexpected. This has mostly been driven by a translational FX gain in 2022, which is not repeated. And in fact, it became an FX loss in 2023. Without boring you with the details, we have taken steps to reduce this source of profit variability going forward. Okay. Turning to free cash flow. I mentioned the operating cash generation was encouraging, and the numbers on this page speak for themselves. So our operations generated record cash flow of GBP 62.4 million, underpinned by inventory reduction, which was H2 weighted. In total, inventory reduced by GBP 23 million to GBP 91.6 million, and we are targeting a further reduction in 2024. Strong operating cash flow was used to fund relatively high property, plants and equipment and CapEx, which totaled GBP 30.5 million as well as increased interest charges. With this that left the overall net free cash flow at GBP 3.3 million. The CapEx amounts above included GBP 23 million spent on major infrastructure projects in the U.S.A. and Malaysia, and we will spend a residual amount of GBP 11 million on these projects in the first half of 2024. There is a remaining amount of spend to complete Malaysia, but this will be in 2025. Okay. So this chart shows where that free cash flow performance has left us in terms of net debt. In summary, the group entered 2023 with relatively elevated leverage of 2.7x EBITDA. Whilst banking covenants had been temporarily loosened, they were due to reset back to 3x EBITDA by the end of 2023. By the end of the first half, the business was generating some cash from operations, but it was also facing an increased CapEx bill in the second half. It also faced the prospect of a slowdown in activity levels. So in short, the business was at risk of exceeding its leverage covenant by the year-end. So the Board acted by putting in place a funding plan, and while some of the actions were painful, they were necessary. So through cost reduction, cash preservation, dividend suspension and a 20% equity raise, the group ended the year with leverage of 2x EBITDA. Whilst we are satisfied with the progress, we made to date to improve our funding position, I'm very happy with the levels of liquidity in the business now, we are far from complacent. We expect the business to continue to generate cash in 2024. Operating cash flow should remain healthy, and CapEx spend will reduce. The key tasks from here is covenant navigation. We expect to see a slowdown in revenue in 2024 as customers destock, and we've responded to this with a further round of cost reduction measures, which we are implementing now to underpin our EBITDA and protect our balance sheet position. While this is -- it's difficult to be precise about the exact timing, we expect the current destocking phase to be relatively short-lived, leading to an improved performance as the year progresses. This would mean leverage increases in 2024, but remains at workable levels. We are closely monitoring trading conditions, of course, and we'll respond accordingly. I'm confident that the successful navigation of 2024 will leave the business well positioned to delever fairly rapidly from 2025 onwards. And debt reduction remains our priority for now, but we will reestablish dividends as soon as our balance sheet reasonably allows. Our long-term target is to reduce our leverage to 0 to 1x EBITDA. Okay. Just a quick update on the funding plan. The numbers in the middle of this slide are my original estimates of the impact of management actions as announced at the time of the raise. The right-hand side provides a status update on each action. The first round of cost reduction actions announced in October 2023 are done and delivering the benefits we expected another round of actions is being implemented, as I've mentioned. We expect these actions to deliver collectively high single -- a high single-digit reduction in overheads in 2024. Inventory reduction is ahead of the original plan. We were originally expecting a GBP 10 million to GBP 20 million reduction in 2024 and 2025 combined. We delivered a GBP 15 million reduction in 2023 alone. So we are well ahead of expectations. We should be able to go further driving an additional net cash inflow from working capital in 2024. But of course, this will depend upon the demand conditions that we face in the second half. Supply payment rationalization is taking a little longer, but the price is potentially somewhat larger than we originally thought. Clearly, we're trying to balance extra terms with better pricing, both of which are important. Okay. Let me end by giving you some modeling guidance for 2024. So our profit is normally evenly weighted between H1 and H2. We expect customer destocking will make our 2024 profit unusually back-end loaded, resulting in a 35-65 split. We expect to achieve a high single-digit reduction in overheads, as I mentioned. We expect our effective tax rate to reduce to between 25% and 30% for 2024 and reduce further still in 2025. With the working capital improvements, we have planned, operating cash flow conversion should be comfortably greater than 100%. CapEx will reduce to GBP 25 million. And of course, this includes GBP 11 million of major CapEx spend carried over from 2023, as well as GBP 9 million of capitalized product development costs. Underneath it all, there's GBP 5 million of maintenance CapEx. We expect net debt to peak around the midyear point, but note that we borrow in dollars and report in sterling. So the final sterling amount will depend on FX on the balance sheet date. And if we emerge from this destocking phase in the way that we currently expect leverage should be at or below 2.5x at year-end, again, depending on FX. So with the numbers done, I'll hand you over to Gavin.

Thanks very much. So thanks, Matt. Right. I wanted to start just by recapping on our strategy and also to touch on the fundamentals of XP. We've continued to develop -- continue to deliver on all elements of our strategy as we have navigated the challenges of recent years, and we've made further progress in 2023. As you know, and our key focus is on growth. We have a market-leading product portfolio, which we have further enhanced in the year through further new product launches and customer-specific products. Demand remains strong for our portfolio, and we remain confident, we can deliver double-digit organic growth across the cycle. We were -- our focus is working closely with our customers. Building on those -- these relationships is underpinning demand and driving growth. We focus on customers where we can add value and drive penetration of our product portfolio and grow our share of customer spend. The continued progress with new wins in both our top 30 customers and with new customers, demonstrates the progress we are making. We continue to invest in our business and our supply chain to ensure we can deliver on the longer term. During 2023, we did slow the Malaysia site build as demand slowed, and we've also relocated 2 sites in California, a design center in Southern California and a customer innovation center in Silicon Valley, close to many of our key customers. People are key to our strategy, improving the skills of existing teams while adding key talent in the right areas. Whilst we absolutely -- we reduced overheads in 2023, we have ensured -- we have kept the capabilities critical for our business success. We made good progress in sustainability area, and we're confident we're leading the power supply market in this area, which is also being recognized by many of our customers. The point I'd make is, we have consistently applied this strategy over many years and that has enabled us to consistently deliver growth ahead of the market, and we believe we're in a strong position to deliver our ambitions in the medium to longer term. I just don't want to just step back and go, yes, we've had faced quite a lot of disruption over the last couple of years, but I wanted to look at the fundamentals behind XP and see if they remain intact. So there's 4 charts on this slide, that underlie those fundamentals. The top left, the designed in nature of our products create a long-term recurring revenue stream. You may recall this chart or a similar chart. We've previously used the ECM40, the very first product that XP designed, that's still 20 years after launch, generates GBP 4 million to GBP 5 million of recurring revenue per annum. This chart actually shows our Flexpower configurable product that we launched in 2008, and it's a similar story. It's a product that grew rapidly and is still in 15 years later, generating GBP 15 million to GBP 20 million of recurring designed in revenue. Top right, we have long-term relationships with our key customers with upside potential from driving product penetration and wallet share. So it's quite a complex chart, but along the X-axis are our top 20 clients. The Y-axis on the left-hand side is the length of relationship with that customer. And on the right-hand side is our estimate of wallet share. So you can see the length of relationship is between 1 and 23 years, and the wallet share is low single digits up to circa 60%. We work very closely with the customer. But the key point, it illustrates the growth potential with our existing customers who know us best and who we know best. Bottom left, we have products that market wants and are gaining share. This chart shows our design wins over recent years, which has been growing double digit over the medium term, which is more than double the rate of market growth. And in 2023, we saw a record level of new business wins. And then finally, bottom right, we have good -- we generate good levels of cash generation, as Matt explained. And you can see over the last few years, our cash conversion has been consistently more than 100% each year except 2022. But if you look at the overall period, we've delivered 113% operating cash conversion. Now I could have used many other charts, but the key point is despite the recent challenges, our fundamentals of XP very much remain intact. And this reminds -- provides a strong platform for further growth. I now want to turn to the market sectors to talk about our performance, starting with the largest Industrial Tech. As you know, this is a very diverse sector for us. It's a broad cross-section of accounts with no individual large programs even though we work with many blue-chip industrial customers. Within Industrial Tech, we focus on the subsectors with good long-term growth potential and attractive niches, typical applications, things like robotics, analytical instruments, test and measurement and 3D printing. So orders for the year were at GBP 92 million. That was 37% below '22 levels, which was an exceptional period as the global supply chain issues temporarily increased lead times and drove orders to unparalleled levels, creating a backlog of orders, which we've seen reverse in 2023. So revenue was at GBP 136 million. Our revenue growth in Industrial Tech has typically been mid-single digits. In 2023, it was up 14%, as we delivered on the backlog that had built up. Given the improved availability of components and general improvements in global supply chain, that gave a book-to-bill of 0.68 in Industrial Tech. We then saw, as Matt alluded to in late 2023, a significant level of destocking as customers have greater confidence in their overall supply chains combined with the higher interest rates, increasing the overall focus on working capital. This will impact orders and revenue in the first half, we expect to recover in the second. Next, on to the Semiconductor Manufacturing Equipment market. So looking at this sector, it does remain an exciting and important area for the group. Semiconductors are the foundation of the digital economy, making them more strategically and economically important than ever before. The market has been going through a well-documented down cycle and we saw the bottom of that down cycle in Q2 2023, and semiconductors returned to growth in Q4 2023, and January -- our January revenue announced overnight was up 15% for semiconductors. We expect the equipment sector to follow ahead of a multiyear up-cycle. In 2023, we delivered revenue of GBP 102 million, which was down 10% in the prior year, up in the first half, down in the second, as the broader cyclical decline was only partially offset by strong areas of demand such as high voltage. Order intake was at GBP 59 million, giving us a book-to-bill of GBP 0.58 billion. Demand has held up in certain areas in ion implant customers, but has been weaker in many other areas of the market. As I said, this market offers a great opportunity for XP and we're confident we can take share and grow ahead of the end market over the medium term as the market recovers. The key question is when will the equipment sector return to growth? We are expecting, and our customers are telling us, somewhere between the second half of 2024 and early 2025 with very strong '25 and '26. Forecast for the wafer fabrication equipment sector suggests growth will be above the end market growth at circa 13% per annum. Our confidence in this demand, well, I'd point to there are 109 fabs globally in the planning or construction phase coming onstream by 2026. That will drive the spending on equipment through to 2026. So in summary, in this sector, we're well placed with the market leaders to grow ahead of the sector and are positioned for profitable growth as the cycle return -- turns back to growth. Finally, the Healthcare sector. Another long-term growth opportunity for XP. The end market remains strong, and our customers are seeing good demand levels. So underlying demand is much stronger than our reported order performance. What's driving this? The ongoing infrastructure upgrades and innovation. Innovation for new products in many areas such as robotics, automated monitoring, advanced diagnostics in the operating theater, it's right across the piece. All of these areas require highly reliable regulated critical power, so an attractive area for XP with both new and existing customers. Component shortages held back shipments; they have abated as supply chains have normalized. And so we shipped our backlog, delivering revenue of GBP 78 million, which was up 37% on the prior year. During 2023, our lead time -- lead times have reduced, new customers and also looking to reduce inventory. This left order intake at GBP 57 million, giving a book-to-bill of 0.73, and that noticeably slowed during the fourth quarter of 2023. So we expect demand to recover as inventory is used up and our performance to return during the second half of 2024. So in summary, when looking at the 3 sectors, we are seeing some temporary challenges in each sector. We expect -- overall, we expect the market to recover during 2024. The timing is unclear, but we expect H2 to be stronger than the first half. I then wanted to talk to how our strategy is performing. And I wanted -- really wanted to focus on the progress we're making with our product portfolio and with our customers. As you know, we aim to create standard platform products, which can be easily customized to solve specific customer problems. Our products add value to our customers through class leading power density, connectivity, efficiency and intelligence. And then our teams add value to our customers through application-specific know-how and technical capability working with them to solve their power problems. So how do we do this in practice? That we have 8 R&D centers across the globe located close to our customers and their operations, and that's key. We have more than 160 people working in R&D and product design, and invest circa 9% of revenues in R&D. Innovation is focused on digital control, providing intelligence to our products, and driving higher efficiency. In 2023, we launched 11 new products and many more added value products where we solve customers' power problems. But what's actually more exciting is we stepped up our NPD program over recent years, and we have a full pipeline of new products to bring to market in '24 and '25 in each part of the portfolio, which is going to be a first for XP. This, in turn, will drive further success with customers. In 2023, as I said, we won record levels of new business, and our live project funnel with our customers is growing greater than 10% and that gives us confidence in our medium-term growth targets. Having a market-leading product set is part of it and customer -- strong customer is only part of the story. It is critical we can deliver on our innovation and better than our competitors. We -- in this area, we see the key to success is agility and innovation. What do we mean by this? While being fast to solve customer problems, having the right people close to the customers with the tools to solve their challenges, then fast to prototype, have the right infrastructure and customer engagement so we can get a solution to customers as quickly as possible, and then fast to high-volume manufacturing, seamless transition from prototype to production. Now we believe we have the right mix of high-volume manufacturing sites, combined with local resources to ensure we can deliver the right solutions for our customers. Just as a reminder, across the bottom, we deliver this through our 7 manufacturing sites, 2 high-volume sites in Asia, 1 in China, 1 in Vietnam, with 1/3 to come online in Malaysia later in 2025, and then 5 smaller regional sites who work very much -- who work much closer with our customers. This provides us with capacity to support our customers throughout their design and demand cycles, but also provides them with business continuity, as we're not reliant on 1 site for any particular product. Just to recap on sustainability. I think everyone knows our commitment to staying on principles is a key part of our strategy, and we continue to lead our market in this area, and we've made further progress in 2023. We published a net zero transition plan in August, and our targets were approved by SBTi in February '24. And this is something that's been demanded more and more by many of our customers, and we're ahead of the market here. We improved our CDP climate change score and expect to make further progress in 2024. And we also mapped our full carbon footprint, including Scope 3. We also purchased Renewable Energy Certificates for electricity used across the group to reduce our Scope 2 market-based emissions essentially to 0. Our plans, our focus is on product design, supplier engagement and overall efficiency of our operations to drive down our emissions. And as I said, we believe we continue to lead the market and we believe it will bring significant benefits to XP Power in both cost reduction and in customer engagement. So what would that strategy bring? We believe delivery of our strategy will yield strong financial returns. Our model outlined on this page remains intact and valid. As a reminder, over the medium to longer term, we are targeting to deliver 10% revenue growth across the cycle, driven by many of the things I've highlighted on this page. We're confident margins will improve, driven by business and market recovery, our ongoing cost and productivity focus. The transfer of further production to our low-cost sites in Asia will be the biggest driver, and then finally, operational leverage. So this, combined with continued strong cash conversion will enable us to reduce debt levels to the 1 to 2x EBITDA in the short-term and below 1x in the medium to longer term. Finally, our outlook. Look, we're mindful of the ongoing uncertainties and expect to face continued market demand weakness in the first half of 2024, followed by second half improvement and further strengthening in 2025. Our focus is on the controllables. Further progress in our strategic priorities, new products coming to market, and working closely with our customers and driving improvements in operational efficiency as we prepare for the return of customer demand. This will result in further reduction in inventory and net debt, and leave us well placed for recovery and growth as the market and order levels recover. On that note, ready to take your questions. Let's start with questions in the room before taking questions online. [Operator Instructions]

Tom...

Hey, Tom.

Tom Rands from Davy. Two questions kind of both kind of linked. But the first one, there's a lot used the term normalization. Could you just kind of define or give us your thoughts on what you think normalized order intake is something like say, a quarterly kind of run rate? And also on the lead times, what are the new normalized kind of lead times? Where they transitioned from the kind of peak through and are we there now to start things?

Okay. So normalization, I think we're meaning pre-COVID. Pre-COVID, we used to have an order book of 4 to 5 months, and that's where we're expecting it to come down to. And it will take a bit of time, but we are seeing customers being -- having much more confidence in global supply chains and therefore, having -- taking a more optimistic view on that. You think when we were running a 9-month lead time with lead times increasing, that's what I think drove caution into the supply chain and people over ordered. We're now definitely reversing that piece. So that's what we meant normalization. On lead times, it's different depending on product and customer, to be honest. But lead times -- general reported lead time will be 16 weeks. The -- some parts of our portfolio will be a lot shorter than that, 5 to 6 weeks in certain products. Some areas will be slightly longer depending on the type of product we did. We have taken orders for -- in high voltage that -- just due to the complexity of the product we're trying to develop for them, it's taking a much longer than that. But 12 to 16 weeks where we're targeting, and that's where the market is, and that's where we haven't been since pre-COVID.

Okay. The second question is just linked to kind of again -- lots of focus on the order intake. What have you seen during January and February, from a -- kind of a monthly run rate, so we can get back to that kind of GBP 50 million a quarter intake, as maybe the norm of GBP 200-odd million from last year is norm, and that's roughly what it was pre? And is the order intake extending? Are you getting orders for the next 2 or 3 months? Or are they kind of orders today for kind of second half like longer duration kind of orders?

Okay. So the order intake will normalize above GBP 50 million a quarter. If you just do the math, you quickly get it too above that. Orders in January and February have been soft, but as expected. And that was what we were being told by our customers in it. We are -- there is a bit of annual for customers -- customers are -- some of them are being -- they're being overly optimistic in our view, i.e., they're saying they want to work -- they're being pressured to reduce inventories to almost 0, which is not going to happen -- is suddenly -- we're not going to get to that. And we've never been at that level, but we're not a typical market where the channel holds a lot of inventory. We are seeing -- and we're seeing different customers having very different reactions. I mean, 2 of our large distributors, 1 U.S.-based is increasing inventories because they believe that's the route to having better availability, which is proven. One of our European distributors who's listed is reducing inventory. So it's a real mix of thesis. Is that covered?

Can't probably, I'm sure -- I will develop that, but I'll let someone else ask a question. Thank you.

Andrew Shepherd-Barron, Peel Hunt. A question on margins, normalization of margins and exactly what's happened in the last couple of 3 years. Revenue this last year was pretty good. But if you compare it to 2019, so pre-COVID, don't know how far back one needs to go, but when it was GBP 200 million. So revenue is significantly higher, the gross margin then is 45%. The gross margin today is 41%. And arguably, to hit your 20% normalized EBIT margin, your gross margin given some higher ongoing costs would appear to need to be 46%, 47%, I don't know. Can you just talk us through -- remind us why the gross margin has come down so much when revenue has increased by so much, particularly in the second -- well, particularly later in 2023 when we thought the order book would have sort of it worked its way through? And how confident you can be that it can go back up to the sort of levels that I think seems to be required?

Yes. So Andrew, obviously, I think in terms of the sort of the past, more difficult for me to answer. I mean, certainly, I would say that in respect of our operations on the East Coast, we've had to increase manufacturing capacity quite significantly, and it's come at a cost. And so therefore, our opportunity -- and this is referenced in the deck is to migrate that manufacturing volume from high cost to low-cost jurisdictions. There's a significant benefit to gross margin for us doing that. There's a benefit to gross margin and also benefit to revenue because one of the businesses in question, they've got more orders than they can ship right now. So I'd say that moving to Asia, everything that we can, is a significant part of it. And I think that -- with that done, and I think with extra focus -- we -- I think -- in respect of our Asian manufacturing operations, we haven't had an opportunity over the last few years to really focus on cost because the group has been growing so strongly during COVID. So the focus of the management team has been, as you might expect, more on capacity than on cost. We've got an opportunity now in 2024 to drive further cost out of that supply chain. So I think you put those 2 things together, I think the group has got the ability to get its gross margin back into the mid-40s, which is key to them to driving the bottom line. And on the bottom line, I mean we have taken a -- we are in the process of taking a significant amount of the overhead base. And okay, you don't necessarily see the operating margin benefit of that in 2024 because the activity levels will be low. If we keep that overhead base in place when demand inevitably comes back, then that's another significant lever to get the group to the operating margin that it wants.

Okay. So a sort of related question to that -- thank you for that. A related questions to that for me would be to what extent are you experiencing commoditization, particularly from China, and we are reading more and more about China deflation, et cetera, and exporting their problems. Are you seeing that in your demand?

Yes. Interesting. But if you look at -- see if you were say that the part of the group that might be most exposed to that would be low voltage, and it will be low voltage products that we don't make. The gross margin on those products, if you look back in time has been pretty steady and high. So I don't see signs of commoditization within our product sets. And -- that means that we can't get back to the gross margins that we achieved before.

And if you think of go back 10 years, where we actively said we want to move away from that commoditized area in China. That's exactly the move up the complexity level, the power and complexity level and that's all we've done. But we -- but Matt's exactly right. We don't compete with those commoditized Chinese products. If you know a customer would go -- you might see it occasionally from a negotiation point and it's right at the low end, where you go, actually, we sell a low-voltage power supply for $18, $20, China is at $10. Critical power cannot fail highly reliable, highly efficient, it's a different sale. We don't tend to compete. And just to -- that $20 is right at the bottom end of our product range. Our sweet spot now is much more in the probably $100 to $2,000 in the low-voltage area, but then when you get into RF and high voltage, you're in $5,000, $10,000-plus type pricing. We don't see the Chinese competition.

Okay. Great.

David Farrell from Jefferies. A couple of questions, please. I take you to Page 22, 23 of your release today, it had your base case and downside scenarios in there from the point of view of kind of growing concerns. Just looking at the downside scenario, it didn't seem particularly worse than the base case, 18% down and now you would struggle with kind of the interest cover. Could just kind of talk me through how you get to that downside scenario?

Yes. I mean it doesn't look like much of a downside. But keep in mind, what Gavin said about the length of the order book, right? So normally 4 to 5 months at the moment is further than that. So we have got pretty good line of sight of the profit that we're going to make for H1, if not into a little bit of H2. So the bit that we're actually flexing is, let's say, the final 4 or 5 months of the year. So it looks like only 4% in total of revenue difference for the year, but actually quite a significant variance for those final 4 or 5 months, right? So I think it's a reasonable downside. And of course, the basis for it is that destocking goes on for longer than we expect, right, which I think is an appropriate scenario to paint. And in response to that, there's GBP 5 million worth of annualized cost savings that we've got plugged in, and that is sufficient for us to pass our covenants with some headroom. We could go further if we had to. But with those cost savings in place, we pass our covenants. So...

Okay. So just a couple of follow-ups. Well, in terms of cost savings, the GBP 8 million to GBP 10 million, are they all structural? You kind of implied just now that they were. But presumably, there are measures you've taken, which are probably temporary to get you through '23?

Yes. I think the GBP 8 million to GBP 10 million, I would say it is structural. I don't think there's a scenario in which we require that to be reintroduced. The second sort of GBP 3 million that we've recently announced, I mean that's really around increasing the sort of span of control of individuals within the business, which you can do for a period of time. Probably over time, you would see at least some of that come back. But I think even if you kept the GBP 8 million to GBP 10 million and a little bit of the GBP 3 million going back to what I said to Andrew, I think that begins to change the operating margin performance of the business, right?

Yes. And then final question for me. If I look at the semiconductor revenue, it looks like over half of that is coming from one individual customer. How confident are you given that close relationship and the fact that that's a point of differentiation, your kind of proximity to the customer in terms of the recovery in the semicon market as opposed to perhaps the distribution channels where you're probably one step removed?

So you're right. It is one customer. Now that customer is plays in every aspect of the semi sector. And there's only -- and they're the only people who do. And they've been particularly strong in the ICAPS market and ion implant, which is where we're designed in. So that has remained and -- to that was Matt's point where we're almost capacity constrained. We're expanding into Asia. So that's a very close -- that's close and we're very keen. Now those programs were designed into well over 100 different programs with that customer. And that's very -- it's copy exact for them to change us out, they need to get the end customers approval. So it very rarely happens. So we're -- yes, we are tied to that customer, but we've been with them for over 20 years and have a very long relationship and actually still have a relatively small wallet share with them. So there's definitely opportunities to grow. That being said, we still see other -- we see good growth in the other semi customers as we develop the relationship, we haven't been in. So with some of the more international, we've only been with the sub 5 years. So I haven't had that designed in nature. And the other piece with semi, once you're designed in, they stay there for a long period. So we've got RF products that were launched in the '90s, believe it or not, they're still being bought because they're designed in. Now we all know how much technology is gone, but they still have that because they can't switch them out. So it's a very long tail.

Tom Rands again from Davy. Sorry, just a follow-up question on David's questions and then one final one. Just on the -- of the current order book, I mean, you said about 75% visibility, current order book for the full year revenue, how much of that order book is for delivery in the next kind of 4 months for -- to give us a guide of first half revenue and then...

Yes.

Profitability please?

Yes. So of that 75%, I would say, 95% to 100% for the first half, and therefore, you can do the math on the second half.

Come to know I didn't answer one of your questions earlier, Tom, about what are we seeing with orders duration? It is mixed. You get some customers who are -- who's saying we want to work on 8 weeks lead time, and this is how do we work to that. Others who are placing orders for shipment right at the end of the year. It's a real -- you've still got a range because some of them are just -- it's almost to their build plans. They'd rather have confidence; they'll happily place the order. So I know we took a reasonably large order for shipment in December. And the only reason I know it cleared, no, no, no, that's going in November because we don't want to have a December risk in it. So it is a real range of what you're doing. But the majority of the order book is for shipment in 2024, some does fall into '25 just naturally.

Okay. And then the final question. Matt, you mentioned the GBP 1.9 million of product kind of charge. How -- and that sounds like you almost found it out from looking at the customer rather than the customer coming to you and saying, this project is kind of being canceled. Therefore, you need to take action. How do those customer relationships work? Is there a risk that other customers have other projects that you're not aware of yet because they haven't told you that you may find out that some development you've been doing is no longer needed?

This has never happened before. This has never happened in -- and it's -- so -- and it's the projects in North America, the way we're working with customers. I just think it's just been such a disruptive period. We've had that. It's a small number with a small number of customers. So not -- is not a broader trend or anything like that. It's just -- we believe one-off in nature. We spend a lot of time qualifying because if we want to put our own engineers working on customer survey projects, there has to be a huge amount of qualification. 95% plus certainty that this is going to happen. And over the 10 years that -- more than 10 years we've been doing it, this is the first time we've seen this.