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Hello, and welcome to the Victrex Q1 IMS call. [Operator Instructions] Just to remind you, this conference call is being recorded. Today, I'm pleased to present Jakob Sigurdsson, CEO. Please go ahead with your meeting.
Yes. So good morning, everybody, and welcome to the conference call for Victrex's Q1 Interim Management Statement. As a reminder, Q1 covers the period from the 1st of October through the 31st of December in 2020. I'm also joined today by Richard Armitage, our CFO; and Andrew Hanson, our Head of IR.I'd like to first summarize the headlines, and then I'll let Richard cover the financials, including cash and inventory. And I'll come back and cover the outlook. We will then open the call up to questions and answers. So turning to the performance headlines. Overall, we saw a positive start of the financial year 2021, and we have seen the incremental improvement, which we talked about in December, continue. So the first quarter was slightly ahead of our expectations. However, performance remains variable by end market, and our full year expectations are still unchanged at this early stage. There is also a variability on a geographic basis. Asia is seeing the most incremental improvement with a mixed performance on the other hand from both Europe and the U.S. Across our end markets, electronics has been notably strong as increased homeworking supports demand for a range of smart devices, as an example, and we're seeing investment in semicon on the rise again. Performance in Automotive, Medical and Value Added Resellers was broadly stable compared to the prior year period, with Automotive benefiting from new application growth and some cyclical recovery as well. And Medical continuing to see a gradual improvement in procedures, although this was largely in Asia. Procedures in Europe and the U.S. have not returned to pre-COVID levels, and we think this will be a more gradual recovery.In Energy, we saw some limited improvements from the low point in the second half of 2020, although performance was lower than the prior year period. Aerospace remains challenging on a short-term basis, although industry data on long-term build rates do not suggest any significant drop-offs. Our long-term projects are continuing and making good progress. I'll now hand it over to Richard for the financial summary.
Thank you, Jakob, and good morning to everybody. Our revenue for the first quarter was GBP 68.7 million, which was 1% ahead of the prior year's GBP 67.7 million. On a volume basis, Q1 group sales volume of 883 tonnes was also 1% ahead of the prior year, which was 877 tonnes. As noted in our statement, January was slightly below last year, resulting in our year-to-date sales volume and revenue also being slightly behind prior year. It's worth also noting that we had a strong finish to the second quarter last year as a number of customers carried out preordering in anticipation of COVID disruption. Automotive and Medical have performed particularly strongly during this period. We are, therefore, still expecting a slightly weaker first half overall.We are now starting to see the effects of the cost reductions we announced in December, which, for the year, will benefit gross margin by approximately GBP 5 million and SG&A by a similar amount. However, our production outlook remains subdued as we unwind our Brexit inventory. So we do expect to continue to see some fixed cost under-absorption. Our gross margin guidance for the year remains as previously, which is for a slight improvement in FY '21 compared to FY '20 to around 55%. Once demand recovers on a sustainable basis, these cost savings will enable us to benefit from improved operating leverage on a longer-term basis.Two other items I would like to touch on are inventory and cash. Firstly, on inventory. Following the Brexit trade agreement, our supply chain continued to perform well for our customers with high levels of service maintained and no material impact from freight disruption. As you know, we have built up our global finished goods inventory and also our raw material inventory in the U.K. Current inventory levels remain high, although slightly lower than at year-end, but we are on track to unwind inventory through the remainder of FY '21, which will start to benefit our working capital position. Moving on to cash flow. We have improved our net cash position, thanks to careful capital and cost management. Cash at the 31st of December was GBP 84.4 million, which excludes cash ringfenced for our Panjin VYX facility in China. However, it's worth remembering that this cash position came before payment of our final dividend this month, which will be an outflow of approximately GBP 40 million. We also have a year of high capital expenditure, which is likely to be close to GBP 50 million for the group. Our China facility continues to make good progress, and we remain on track for commissioning during 2022. As we indicated in December at our full year results, the project's capital cost is likely to increase as a consequence of needing to recruit and deploy additional local engineering resources. This results in our total CapEx guidance moving up to closer to GBP 50 million overall for this year. Thank you. And I would like now to hand back to Jakob.
So thanks, Richard. So 2 things before we turn to the Q&A. Firstly, on the mega-programmes, I do want to reinforce that we continue to see little evidence of any material slowdown in the pipeline. We remain fully focused on delivering specific milestones as we move closer to commercialization -- or greater commercialization. Secondly, on the outlook, it is quite pleasing to see a positive start of the financial year 2021, and we continue to see momentum and incremental improvement across several of our end markets. However, this improvement trend may remain variable. We do need to see another couple of months of trading first before we can assess the sustainability of this improvement. And as Richard indicated earlier, our assumptions are that we will still see a weaker first half overall compared to the first half of 2020, which ended very strongly when our customers were building inventories ahead of any potential COVID disruptions.So in summary, we started the year in a very positive way. We continue to see incremental improvement, but this trend may remain variable. And despite top line improvement, we still do have some drag from under-absorbed fixed costs whilst we unwind inventory and as production remains at a lower rate. Overall, at this early stage, our full year expectations are unchanged. And I think we can now hand it over to Q&A.
[Operator Instructions] Our first question comes from Mr. Mubasher Chaudhry from Citi.
Just 3 quick ones. Could you provide some additional color around the Magma mega-programme and where that's got to and how the discussion is going. And kind of when should we expect any incremental news flow from that side? And then a little bit on your outlook for Aero. It seems to be that it's still subdued and it's likely to be subdued, but in your commentary in the press release, you said in the short term. Does that imply just the first half this year or -- because when we look at the build rates, it seems to be a much slower ramp-up. So some commentary around that would be helpful. And is it fair to assume that the 2Q volumes in Auto will be down year-on-year because the impact of its results was a little bit more delayed versus what the wider COVID impact was? Just some clarity around that would be helpful, please.
Sure. I'm happy to provide some color on that. On Magma to begin with, we're very much focused there on qualification pipes, working with Magma and TechnipFMC, in particular, with a view on the Libra field. And that work is on track. I think we'll be able to report on that as the year progresses and probably, more significantly towards the end of our financial year. But sufficient to say, that program is on track as it relates to the work that is ongoing around the qualification of the different kinds of pipes. As it relates to revenues from that, if everything goes according to plan, as we've said, then we should start to see an impact from that in FY '23. On the Aero side, this is the sector that probably has the slowest recovery. We are seeing some small signs of recovery here, but I think we're expecting this market to be subdued for at least a couple of years while build rates are sort of ramping up again. We have moved from the trough that we saw sort of around the mid of last year or so, but that's only very, very small incremental growth. And as I said, this will be the segment that will have the slowest recovery. However, we are happy to see that the interest and the attention and the investment at our customers in the longer-term programs remains. And therefore, we think that the longer-term value proposition that we have is going to be largely unimpacted or not impacted by COVID, even if the current book of business may be going through a relatively slow period for the next couple of years at least.On the Automotive, Q2 for us versus Q1, which was your third question, I believe. Then there is good momentum behind Automotive, and we seem to be improving run rates with every month that progresses. So remember that last year, we saw quite a bit of prebuying in Automotive and in other sectors for that matter as well. In Automotive last year, there was also prebuying because of regulatory changes in Japan. We had sort of inflated our numbers during that second quarter. And that's why beating the second quarter of last year might be a bit challenging even if we are seeing a growing momentum month-on-month in Automotive.
Our next question comes from Sebastian Bray from Berenberg.
I would have 3, please. Firstly, the CapEx for the group level to be expected for the next few years, what would be the remaining CapEx investment that Victrex would need to make above [indiscernible] levels of, let's say, GBP 25 million a year when it pulls the trigger on the debottlenecking in England? The second question is on the reference to automotive application wins in the press release. What are these? Are they gears? And is Victrex currently qualified for use in electrical insulation or other EV-specific applications on any platforms due to come to the market in the next 2 or 3 years? And the third is a question on market share. Has the market share of Victrex changed substantially within PEEK over the last 3 to 4 years? Or perhaps to put this another way, has the share of the specialty polymers markets occupied by PEEK changed?
So Sebastian, if I deal with the CapEx question. So as we've indicated, we're looking at something approaching GBP 50 million this year. Next year, in as far as, at the moment, we have a forecast because there are plenty of things we could choose to do or not do next year. But thinking about the impact of the debottlenecking and also the remaining spend in China, probably looking at something like GBP 35 million to GBP 40 million in FY '22. If no other significant CapEx opportunities come along, we'd probably then see that dropping back down to the sort of GBP 25 million kind of level the year after. But of course, we'd always make the point that new opportunities can come along and present opportunities for investment. Do you want to do the question on gears?
Yes. Sebastian, on your gears question and Automotive, in general, the gain that we have been seeing there has been mainly sort of in existing applications. So in bushings and bearings, seal rings, braking parts and the like, the things that you would recognize, gears, a small, but growing fraction. And as it relates to opportunities in electric vehicles without being too specific here, we've made some great progress there in the last quarter. Had some important -- or hit some important milestones there. And as you know, we have been preparing for this for a number of years now. We have now included e-mobility as sort of one of our mega opportunities. And that's across a broad spectrum of different kinds of applications. But that's not reflected in the numbers to date, but I think that we'll be starting to see an impact as we go into FY '22 from business in a number of applications related to e-mobility. On market shares, sort of broadly, relatively stable as far as we can assess. We look at capacity increases in the industry. The last one by one of our competitors was in 2017. And there are probably fewer players around now than there were back then, and the market is maybe slightly more concentrated than it was back then. But I don't have any reason to believe that market shares have changed substantially in the last 3 to 4 years.
Jakob, just to perhaps probe on your comments about e-mobility applications 2022. I appreciate you're likely not going to tell me outright if there has been an award made or not, but if I may phrase this differently. Would you be disappointed if within the next 2 to 3 years, Victrex were not making significant sales to e-mobility applications?
I think let me put it this way, Sebastian. We've got an attractive set of opportunities ahead of us, and I'm quite optimistic about our ability to capitalize on those.
Our next question comes from Rob Hales from Morningstar.
I was wondering if you just can give us a bit more details on where in the semiconductor market you play. And does the chip shortage we hear about these days, does that potentially impact you in some way?
So basically sort of 2 major categories here. On one hand, we are a part of what you could call capital equipment that goes into plants, into semiconductor plants in a number of different applications. And then secondly, one could say that we are a part of certain consumables in there as well. So it's -- our impact, or the impact from any -- both capital investment and general recovery in semicon production and sales, we are driven by both because, as I said, we do go into certain applications related to capital investment in semicon plants. And secondly, we are a part of certain consumables there. So we definitely see the impact of the growing demand there reflected in the numbers year-to-date.
Okay. I mean, could I just follow-up on that? Is it possible to maybe get a rough breakdown between capital and consumables or any relative magnitude between the 2?
No. We have not given any numbers on that, but it's sufficient to say that, obviously, consumables are having a greater impact or what we could define as a consumable portion of it is having a greater impact as of late, given the rate and increased demand for sensors and the like.
Our next question comes from Kevin Fogarty from Numis.
If I can have 2, please. So one is just on inventory. I just wondered for the remainder of the year, Andrew, is there any change in your expectations of how quickly you expect to unwind the current inventory position? And the second one is really around the cost efficiencies. And I guess, have we seen any inflation -- any inflationary areas recently where you may not get the same level of operating leverage on the way up as you received on the way down? I just wondered if there's any change in your thoughts on the impact of cost efficiencies there.
Kevin, so on inventory, no. The plan is still very much the same as it was. So I think we signaled at the year-end that we're looking for a working capital benefit to GBP 10 million this year, and that's still what we're targeting. It should achieve a little bit more than that, I think. And cost efficiency, I don't think the outlook has changed. We're not seeing any new inflationary impacts at the moment, either in things like labor costs or materials, for instance. We do intend to work on delivering operating leverage as volumes recover and to try and drive that aspect harder than maybe Victrex has achieved in the past. But that work is yet to come, but we will expect to be successful in delivering it over the next couple of years. I think we have -- we will continue to indicate that because we are bringing inventories down this year, the opportunity for operating leverage this year is pretty limited. But we should certainly start to see benefits going into FY '22.
Okay. That's helpful. So I guess, the medium-term expectations you've sort of previously outlined for gross margins are still retained?
Yes, absolutely. We indicated we expect to get back close to 60% overall, and that's definitely still the plan.
Our next question comes from [ Mason Macy ] from JPMorgan.
Yes. No, I haven't changed my name. It's Chetan Udeshi from JPMorgan. Just I had a question, slightly different, which is, there is -- I think you mentioned this in the full year results as well about improving the recyclable rates for PEEK. I just wanted to delve into it. What is it today? How does the recycling ecosystem work? Are you the ones who are sort of recovering some of the old PEEK? And where can you raise the recyclable rates in the future? I think it's just interesting to see how that sort of works in sort of your world. Second question was in your Medical business, the sort of higher margin, higher mix business in the U.S. and Europe, can you give us some sense of how did that perform last quarter versus, say, the pre-COVID levels? Are we still talking about down significantly? Or has that recovered now more or less to maybe close to pre-COVID levels?
Yes. So on the recycling part, I mean, this is one of the very interesting aspects of PEEK and in experiments that we have been running. It is quite amazing how often you can recycle PEEK. Now there are certain supply chain existing in some of our key markets, where, let's say, scrap PEEK from milling, et cetera, is finding its way into the market, again, through various processors. And there are evidences of that both in Europe and in the U.S., in particular. And it's difficult yet to assess how large it is today, but I've seen numbers from certain reports that would indicate that it's less than 5% of what could be recycled. So I think there is a great opportunity here, and we look at it as a part of our duty as a good corporate citizen to try to play a role in terms of trying to catalyze that. And we've got a number of examples where we have done that. And we will seek to take a bigger role in that going forward. But it all sort of, like in all recycling of polymers, it all depends on having an effective supply chain to collect, to clean and then to rework and redistribute. And those supply chains are in very different states. If you look at sort of commodity polymers, basic [ ASTT ], polystyrene, polypropylene and the like, supply chains in that area are getting more mature. And obviously, there's a huge difference in terms of the volumes that go through that. I think the opportunities for recycling PEEK and the supply chains associated with that are not as advanced, but there certainly is a great incentive to recycle PEEK because of the price that it's sold at in general, and the fact that the properties, depending on from what kind of applications recycling is happening, are actually quite good and lasting. So it is an emerging field, but it is an emerging field that we are intending to be a part of and that we are intending and determined to catalyze, if you wish. Now on the Medical side, I'll ask Richard to add flavor to that.
Chetan, yes, so we definitely saw some sequential improvement in Medical in the first quarter, particularly driven in Asia, or driven by Asia. I think we can probably expect the first half still to be slightly down year-on-year, low singles, by low single digits of percentage. I think Medical is the area where we are just seeing a little bit of variability in the forecast because of the ongoing impact of COVID. So we are slightly cautious about Medical in the short term. So it hasn't recovered to pre-COVID levels, to address your specific question. Clearly, at some point, we would expect a recovery because there will be elective procedures out there that needs to be caught up. But probably it will remain subdued this quarter and next quarter.
Maybe Jakob, if I follow-up on the first point, just quickly, is more recycling of PEEK actually good for Victrex in the long term or bad? Because it may reduce the demand for virgin PEEK. So I'm just trying to assess how it plays out in the long run, if you guys were successful in increasing that.
Chetan, this is all about doing the right thing and adapting our business model to it. It is an inherent benefit of PEEK that you can recycle it, and we're seeing that being sort of put forward, actually, as an interesting sort of a request from some of our customers. And it's being looked at as a competitive advantage with PEEK that it can be recycled. So whether it's good or bad for business longer term, I'm absolutely sure it's the right thing to do. And usually, the right thing to do is good for business. So that our philosophe -- philosophy, sorry, towards it, and we will operate by that mantra. And we are not afraid at all to drive the maximization of opportunities for recycling what we produce as a virgin material.
[Operator Instructions] Our next question comes from Henry Carver from Peel Hunt.
Just a couple from me. First of all, you said Q1 is obviously a little ahead of expectations. And within that, Electronics was strong. Was it Electronics that created the upside surprise? Or was it more broad based than that?And then secondly, on the mega-programme that you referred to in the statement, it's in Knees and also in a trial in Belgium. Can you just remind me where that leaves you in the sort of longer-term picture of the PEEK Knees story? Is that -- does that -- are you in line? Or does that take you ahead of where we were? Or just a bit of color around that would be great.
Henry, so I think Q1 definitely did benefit from Electronics. I think it's well-known that, that market has certainly rebounded very quickly and had a very minimal impact from COVID. But we have seen broader reasonable demand as well. So Automotive, as we indicated in the statement, was sort of roughly in line with prior year. So that was a reasonably good recovery. And indeed, more widely in the Value Added Resellers, we've seen a reasonably good bounce back. So I think I wouldn't probably quite go as far as to say, it was a surprise. I think you have to bear in mind coming into the first quarter, we were still in that period of time last year when things were very uncertain. So it is good to have seen a reasonably good bounce back in the way that we have. But equally, there's quite good evidence that inventories in the supply chain were very low indeed. So there is some degree of restocking going on. So I think we sort of characterize this as a sort of pleasing start to the year and a pleasing rate of recovery, but still plenty of room for further growth before we get back into sort of pre-COVID levels. On Knees?
And then on Knee, Henry, basically, we've been put back a year by the advent of COVID. At about this time last year, we were just about to start the clinical trial in Italy at the time when COVID hit. And surgeries have not -- or the return to elective surgeries have not allowed us to start those again. But in the meantime, we've added a couple of sites, so in both Belgium and in India. So we're quite optimistic that with improving conditions, we will be able to report what will be a major milestone for us, which will be the first implantation of a PEEK-base knee into a human relatively soon. And hopefully, when we speak together, again, in May, we'll have positive news on that. But it has put us back a year essentially. And that is the mega-programme, as we have referred to, that probably has been most impacted in terms of timing as a consequence of COVID.
Our next question comes from Adam Collins from Liberum.
I had a couple of questions, please. Firstly, you've been discussing the tough 2Q comps, and I think you've sort of mentioned the fact that there were some additional customer stocking in the second quarter ahead of lockdown. I seem to recall there was sort of a couple of things going on as well, some ventilator sales and then a disrupted supply position at a key competitor. I just wondered if you could confirm, you haven't really seen the same ventilator action this year to the extent that's being less in hospital, more oxygen, less ventilators. And then on the supply position, am I right in thinking that the major competitor is not disrupted at this stage? So that's perhaps one of the factors that's sort of driving the tough comp in 2Q. And then sort of related to the question, you've got the unwind of the safety stocking in Europe. Maybe a comment, Richard, on when do you expect that to happen through the year. Is it going to be linear? Or will it be happening later in the year?
Yes. So let me do a couple of those. So I think in terms of the tough comp, we saw probably 3 things going on. So you're absolutely right. There was some ventilator-related business, particularly going into March of last year. Secondly, in Automotive, I think we probably identified a little bit of sort of general prebuying ahead of some expected disruption, and there was also the response to change the legislation in Japan that Jakob referred to. And then I think more broadly, and again, probably Value Added Resellers but again we saw a little bit of prebuying. So none of that was individually that significant, but it did add up to boosting our second quarter last year. I think on inventory, so we have not reduced inventory by very much so far because we needed to get through the end of the transition period. We would now be expecting a fairly steady reduction in inventory through the balance of the year. So probably relatively straight line, I think, through to year-end. It may --
Can I just ask on that? Sorry. I think you indicated either a revenue value or volume value for that finished goods inventory in Europe. Would you mind kind of reminding us?
Yes. I mean, we're indicating a working capital improvement of GBP 10 million this year. And I suspect we'll do a little bit better than that.
Right. Okay. And that's all related to this unwinding?
Yes.
Or is there a netting effect? Okay. I interrupted you, sorry.
Yes. And then on the competitive situation, I've got no evidence to assess what issues there might have been at a certain competitor nor do I have a good insight into what incremental business it might have meant for us, if any. From what I gather from our numbers, this is largely coming from an existing customer base, from new applications as well, from recovery in some of the end markets and frankly, cannot be pinned on any difficulties on the behalf of others. And as such, I would assume that there isn't, but I cannot exclude that there might be some.
Okay. Now just one on mega opportunities. You've identified opportunities in Energy, Auto, Aero, industries which had a sort of tough 2020 and in some cases, are having to manage quite a complex synergy transition. Now there's a bit of a debate about whether those industries in the face of the [indiscernible] conservative or kind of disruptive [indiscernible] alternative. A bit of a philosophical question, but do you have a view at this stage whether what happened last year is going to accelerate the opportunities in those industries? Or could there be a period of sort of consolidation when they're less receptive to the idea of making significant material changes?
You broke up a little bit in the question, Adam, but I think I got what you were saying. You were asking basically whether we would expect there to be a potential sort of large impact because of COVID on some of the adoption rate for our materials. And broadly, I think you have to address that question in sort of 2 separate parts. On one hand, you take our Medical business. On the other hand, the Industrial business. And I would say on the Medical business, probably not a large COVID impact longer term. Sure enough, as Richard has talked about and we talked about it in our statement, we've seen an impact of it in the short term, but we would expect that to recover once elective surgeries are sort of starting to pick up again. Now however, on the industrial side, I think there is an opportunity for us to actually potentially see some catalytic impact, if you wish, on our business there because I do think that, in many of our sectors, the emphasis on more environmentally friendly technologies and more environmentally friendly enablers has certainly been increased during the year. And if I look at some of the projects that we have with some of our key customers in these sectors, they have not been the subject of any cuts as it relates to R&D spend on their behalf. And I think, if anything, we can take some pleasure in the fact that these programs are all moving at the pace that was planned pre-COVID. And I would hopefully see as well that if you look at, for instance, of some of the state subsidies and support programs in a number of different industrial countries, they are disproportionately directed towards greener alternatives. And in general, that's a very good trend for a company like Victrex, which is in the possession of technology and materials that are very often key enablers to that effect.
Our next question comes from Sam Perry from Crédit Suisse.
Firstly, just has the pickup in Automotive had any impact on the progression of discussion in gears? Or are they largely unrelated? Then secondly, sort of over the medium term, how much of your capacity do you expect to be filled with volumes contingent on the mega project? So i.e., if we're looking at your capacity footprint in, say, 2023, how much of it is going to be filled with projects you've currently identified as mega projects? And then just a technical question, what's your expectations for the FX impact for the full year?
So if I start with the gears question, Sam. So the pickup in Automotive is sort of mainly in existing applications. Remember, we do have gears programs on the road already, and they are progressing well. We have also been growing our pipeline of projects in that area. And when we spoke together in December, we indicated that, that had grown from around 15 programs mid-year last year to around 25 towards the end of the year. So encouraging progress there, but it's not really contributing a lot to volumes [ these days ]. We would expect to see them start significant in a much greater fashion in the financial year FY '22 and FY '23. And broadly, that ties in with your second question, and that is that we would expect to see some of the mega-programmes to be having or starting to having a really meaningful impact on volumes in 2023 and going forward. And that's where expectations in -- on the Automotive side, and in particular, on the Energy side as well, start to have a meaningful impact on our demand for polymer. On the FX one, I'll hand it over to Richard.
All right. Sam, so clearly, with sterling strengthening, there has been a small increase in the headwind, although we were, of course, covered to the tune of about 80% of our currency cash flows since we came into the year. So that headwind is now looking at about GBP 3 million for the year as a whole.
There appears to be no further questions. So I will hand back to the speakers for any other remarks.
Yes. So thanks, everybody, for the questions and for attending this morning. And we look very much forward to talk to you again in May. And hopefully, we will see a continuation of the positive start of the year, even if I think we clearly underlined that the future is still a bit uncertain and we can expect some volatility in terms of demand in our end markets throughout this year. But overall, one could say, so far, so good. Thanks, everybody, and we look forward to speaking to you in May.
Thank you. This now concludes our conference call. You may now disconnect your lines.