NRC Group ASA

OSE:NRC

Earnings Call Transcript

[Henning Olsen, Chief Executive Officer]

Welcome to the presentation of second quarter results from NRC Group. Due to COVID-19, we present the second quarter as a webcast, followed by a Q&A session at 11 today.In this picture, you see concrete works from one of our projects in Civil Norway. It's a small quay construction connected to the area outside the new Munch Museum with a steel bridge. The construction of ports and quays is one of our segments in Norway, where we have a strong competitive edge and a strong position in the market.Due to COVID-19 restrictions, we experienced that prefabricated structures arrived late and quarantine regulations impacted the installation of the steel bridge. This is a good example of how COVID-19 can impact our projects. However, our Project Manager Martina and her team have handled the challenges very well, and the project was completed during the quarter.In quarter 2, revenue amounted to NOK 1.7 billion, an 8% growth. The growth is FX-related. And EBITA of NOK 27 million is weaker than last year and weaker than what we expected. Margins are negatively impacted by increased production overhead in Finland as a result of overcapacity of personnel and lower utilization of machines within maintenance and core rail construction.We are implementing measures to reduce capacity and increase the flexibility of the cost base. The EBITA margin in the quarter was also affected by execution of zero-margin projects following project margin adjustments in quarter 4 2019. Our improvement programs in Sweden and Rail Norway are progressing as planned, and we see clear improvements both in processes and financial results.The order intake for quarter 2 was on the weaker side with a book-to-bill of 0.8. The tender activity was high during the quarter in Norway and Sweden, but our win rate was low in Civil Norway and Sweden due to fierce competition. As we have said, we focus on profitability before growth. We have stayed consistent with that strategy, and we have not lowered our profit expectations in tenders to fuel growth.Overcapacity in Finland and lower revenue expectations in Civil Norway lead us to lower the guiding for 2020. We expect an EBITA margin of 1.5% to 2% and flat revenue growth. We have also revised down the guiding of EBITA margin for 2021 from up to 5% to up to 4%.We need to run more revenue through our books than what the current order book indicates to see EBITA margin above 4%. The quality of the order book is good. The long-term ambition for 2024 still stands. The market outlook is strong. We see clear improvements in the areas we struggled in 2019, and the organization as of August '20 is stronger than what it was 1 year ago.We have been through a historic quarter where the COVID-19 pandemic has impacted our way of living and working significantly. I want to thank our employees who have adapted well to the new situation and enabled us to continue safe operation with limited financial effects.We continue to monitor the development and its potential impact on the industry and our business. We continue with high awareness and follow-up with relevant actions in all countries to keep our employees and partners safe.We are happy to see that the tender processes are progressing as expected in most cases. And this is, of course, of high importance. We see some uncertainty regarding investments from transport companies owned by municipalities due to COVID-19 restrictions. Lost ticket revenue influence planned investments, this might delay some tender processes.We have chosen to go from yearly to quarterly reporting on our key HSE indicators. We have seen a positive development on our safety KPIs this year, and they are trending around industry average. This has high attention in the organization. And our goal is, of course, to gradually improve performance. The sickness absence rate has been trending higher, mainly due to COVID-19 effects, leading to higher absence due to quarantine rules and other restrictions. We expect this to come back to more normal levels.Then Dag will take us through the financial figures.

[Dag Fladby, Chief Financial Officer]

Thank you, Henning. Revenue in quarter 2 was NOK 1.66 billion, up from NOK 1.55 billion for the same period last year. The increase is explained by currency effects with weaker NOK compared with euro and SEK than last year.EBITA was NOK 27 million, with an EBITA margin of 1.6% versus 3.3% in second quarter last year. The reduction in margin is mainly due to higher production overhead related to overcapacity of personnel and machines in Finland. The activity have been lower in core rail with fewer tenders in the market than expected, which has led to lower utilization on both our machines and the personnel, increasing our production overhead.The decline in margin, is also affected by that maintenance area 1, was ended 31st of March and out of our books. Additional measures to reduce the cost and to increase the flexibility in the cost base in Finland will be implemented.The measures are estimated to include layoffs of approximately 60 to 80 FTEs, and we expect the full cost effects from these reductions to be in quarter 2 next year. The margins in Sweden and Norway has naturally been affected by execution of zero-margin projects, following the project adjustments in quarter 4 last year.For quarter 3 and quarter 4, we expect approximately NOK 190 million in revenue from these projects. As Henning mentioned, COVID has had limited negative financial effects on total level. However, some projects in Civil in Norway has had increased costs due to COVID-19, amounting to approximately NOK 5 million this quarter.Depreciation was NOK 54 million in the quarter, which is more or less at the same level as last quarter, and net financial items was minus NOK 18 million, which is at normal level. Further comments on each country will be covered by Henning later in the presentation.The balance sheet is solid with an equity ratio of 45%. And the historical weak Norwegian krone versus euro and SEK is still affecting our balance sheet. In quarter 1, the equity increased by NOK 140 million due to currency effects. The currency effects reduced equity with approximately NOK 40 million this quarter since NOK has strengthened somewhat since March.Looking at the main items in the balance sheet: goodwill is NOK 3 million, which is a reduction of NOK 80 million from quarter 1, mainly due to currency effects. We have a cash position at the end of the quarter at NOK 691 million versus NOK 821 million end of March. Net working capital follows the seasonality of the business with some improvements due to continuously focus on improving the working capital.Our interesting -- interest-bearing debt at the end of the quarter was NOK 1.86 billion, a reduction of NOK 60 million from quarter 1, mainly explained by repayment of bank debt, some increased leasing and currency effects. Interest-bearing debt includes operational leasing, which is mainly house rents. Our net debt at the end of the quarter was NOK 1.17 billion, which is an increase of NOK 70 million, mainly due to lower cash position in the quarter.Moving to cash flow. We have a cash flow from operation this quarter of plus NOK 31 million, which is up from NOK 11 million in quarter 2 last year, even though the result was lower. We continue to have a sharp focus on working capital improvements. In Sweden, the payment terms to Trafikverket has been reduced by 15 days as part of the governmental support related to COVID-19, which also explains some of the improvements.Year-to-date cash flow from continuing operation is NOK 73 million, an improvement of NOK 120 million compared with last year. Then we have the net investment of minus NOK 30 million, which is mainly payment for a small add-on in Sweden with NOK 12 million, and final settlement of normal balance sheet adjustments related to the sale of Design business in quarter 4 last year.Net CapEx in the quarter is 0. Net cash flow from financial activities is minus NOK 108 million, where the main items are repayment of debt of NOK 41 million, leasing payments and interest. And our cash position, as I mentioned, is NOK 691 million.Leading us to our financial position, which is robust at end of June: cash NOK 691 million, and we also have unused credit facilities of NOK 200 million. Net debt is NOK 1.17 billion, consisting of bank debt of NOK 697 million. We have a bond of NOK 600 million and then leasing, including operational lease of NOK 562 million.On the right side of the slide, we show the bank and bond maturities for the next coming years. And as you see from the graph, it's around NOK 80 million, which will be repaid during the second half of this year, and then it's around NOK 160 million in repayments in '21 to '23. The bond is a bullet and has repayments in 2024.Now Henning will go through the operational business and the market look.

[Henning Olsen, Chief Executive Officer]

The improvement programs in Sweden and Rail Norway are moving according to plan. The local management and their teams have done a great job so far. It's been challenging, but we have followed the plan. The programs have started to yield results, although COVID-19 has not made it easy to execute on complex change processes.These are ongoing processes and still a lot of remaining work and, of course, still risks in the projects. But we are in a much better shape today than what we were at the end of 2019. We have improved tender processes and risk assessment in the tender phase in all countries.We see effects of the joint machine operation across Sweden and Norway, and we utilize competence and capacity between Sweden and Norway better. Our training and competence building activities will continue going forward.In Finland, as we said in quarter 1, we started the change process later than in Sweden and Norway. In Sweden and Rail Norway, we had a new management operational since September '19, while the management team in the maintenance division in Finland was operational from March this year.It's been a rough start completing the downsizing after a loss of maintenance area 1 in 2019, and in parallel, establish a new organization. We reduced the organization with 150 FTEs to adjust for the new situation in maintenance, but combined with lower activity in core rail construction we need to implement additional measures, which is estimated to include layoffs of approximately 60 to 80 FTEs.On the positive side, we have had a good hit rate on winning new maintenance contracts in Finland this year. And with the new measures we are implementing, we will be even more competitive going forward.Maintenance is core business for us, and I'm confident that we are the best maintenance provider in Finland. We want to grow, and we want to grow profitable. And I'm confident that we have a good team in place to handle these processes in Finland.When it comes to overhead reductions, we have executed on the measures as planned. When it comes to Finland, the overcapacity leads to higher production overhead, but this is more an operational issue and measures are implemented.In Finland, the light rail portfolio is driving the revenue growth. Second quarter is the first quarter where revenue and profits from maintenance area 1 is out of our books, so the growth in light rail is higher than what overall figures are indicating. We see strong performance across the entire light rail portfolio with Tampere Light Rail and Jokeri Light Rail in production and Crown Bridge project in the development phase. Our Material business is also performing well in 2020.Even through maintenance, when we talked about the improvement programs that we have also experienced overcapacity in the core rail construction segment. The market has been significantly slower than expected and on top of that, we lost 2 bigger tenders in the market by very small margins.The long-term outlook for our market is very positive, but we see temporary dips and these dips impact us too much financially. In Finland, we have a machine fleet that is significantly larger than in Norway and Sweden, and we cover a higher share of the production with own resources.We need to act on how the short-term fluctuations in activity level impact us. We need to adjust to a more flexible cost base, resulting in an operating model more similar to Sweden and Norway. This means reducing the active machine fleet significantly, and unfortunately, reducing FTEs. We need to rely more on partners and subcontractors and utilize their capacity to adapt to changes in the market faster with less impact on our margins.The maintenance division and core rail are the segments with the highest share of machine work. So lower volumes on both of these have a high impact on our machine operations and costs related to production overhead.NRC Group Finland has been one of the most profitable construction companies in Finland for several years, and we will implement required measures to stay there.The tender pipeline in Finland has been lower-than-expected this year. On the picture, you see an overview of how the budget for FTIA from '18 to '20 has developed in light gray compared to the actual spending in the mid-section and the tender volume in dark blue. This is based on official budget figures, information from FTIA and our own estimates.When we plan our capacity within core rail construction, we need to base our capacity decisions on the development in FTIA budgets, as we need to make decisions on how many machines to activate and maintain and the size of our workforce before we see the actual tender pipeline and how our hit rate in the market has been in the season.So moving into 2020, based on the budget allocation, we had good reasons to believe that activity level within core rail construction would be significantly higher than 2019. Unfortunately, the tender pipeline has actually been marginally lower. When we have also had a lower hit rate than average, it has led to overcapacity.There are many potential reasons for a gap between estimated spending and the tender volume that we see in the market, but the visibility is limited. Our interpretation is that the increased spending will come from medium- to big-sized projects we're planning, and design takes more time. They are not ready for the market.Some of the planned projects estimated to be built out on tender this year has also been delayed. As I said, going forward, we will implement a more flexible cost base to reduce the impact of these fluctuations, relying more on partners and subcontractors to take peaks in the market.For Finland, the latest market information confirms the positive long-term outlook. The first budget proposal in Finland is in line with the forecasted investments for 2021. The tender pipeline is still low within rail construction. The most significant contract for us is an extension of the Tampere Alliance contract extending the tramway by another 7 kilometers, and this is expected to be decided in quarter 4 this year.We have won the 3 latest maintenance contracts in the market, and we have 2 new contracts coming up in the next 9 months. The maintenance contracts have longer lead time, so the potential wins here will not yield significant revenue and profits before 2022.In Sweden, we see a slightly higher activity level this quarter compared to last year. It's mainly due to maintenance and the new contract started on the 1st of August last year.The results are according to our plan and expectations with some improvement since last year. Zero-margin contracts still bring down the margin, and it consumes a lot of capacity in the organization as they are challenging projects. We have some projects performing better than expected. And in some projects, we have had to do further adjustments. But in total, the portfolio is developing as expected.There is still risk left, of course, but this should be significantly lower by the end of the year. The organization has delivered very well on the improvement programs, and the organization is gradually getting stronger. We have also done 2 minor add-on acquisitions in Sweden to strengthen our competence and capacity within signaling and track renewal projects.Tenders have been released as expected this quarter, but the price competition has been fierce. We have kept our pricing strategy, meaning that we are not willing to dump prices, and we will continue to do so as this will yield the best profit in long term.Market outlook and tender pipeline is still strong and growing. The big question is when the competitive situation will normalize? We have seen significantly higher tender activity during the last 9 months, but still we see fierce price competition. So far, we have managed to find the gaps in the market where we price projects in a decent way and win, but our book-to-bill ratio is only 0.8 the last 12 months.The order book for '21 is at the same level as for 2020 at the same time last year. The key for 2021 is to win rail construction and civil projects to achieve a moderate growth in revenue in Sweden. This will also improve margins. We see good tender pipeline in maintenance, but SL in Stockholm is heavily impacted by COVID-19 restrictions and have lost a significant share of ticket revenues last month. So we might experience some delay on tenders in this segment.Revenue and profit in Norway is impacted by lower activity. We have not won tenders required to keep the activity level on the forecasted level for 2020. Project performance is good with strong margins on the projects. For civil, we have had some impact of COVID-19 estimated to NOK 5 million on EBITA. The weak order situation will impact the profit going forward. The volume is low, and we have a conservative approach on booking margins in early phases of a project. This is one of the reasons why we are reguiding profit margins for 2021. We need to win a couple of larger projects in civil. The tender pipeline is there, but competition is also strong. Traditionally, the lead time from winning to start a project is shorter within civil compared to rail. So winning a couple of larger projects during third and fourth quarter can change this situation quickly.Within environment, we delivered strong margins, but somewhat lower than last year. The market has, to some extent, been impacted by COVID-19, but it's still a healthy market.Within Rail Norway, we see good progress, and the figures are gradually improving. The competition is also more favorable in this segment compared to civil. The market outlook is still good. The tender pipeline is strong, and we have capacity to grow in our organization.It is important for us to continue winning projects in the quay and port segment to maintain our strong position. We will continue to tender for traditional civil projects that match well with our capabilities, and we will prioritize projects, the balanced mix of civil and rail, where we have a strong competitive position, controlling the whole value chain in the project.The margin between success and failure in tenders are small. If we had 1, 2 of the strategic tenders in civil that we bid for in second quarter, we would have been very comfortable with order book. With margins more on our side, we should be able to increase our order book going forward.Within the construction sector, we see a fragmented and specialized supplier market. Many suppliers are smaller companies between 20 and 100 employees. A fierce price competition leads to cost pressure throughout the value chain. Unfortunately, there are still some suppliers not following industry requirements, ethical standards and government laws to keep low cost.As a main contractor, we are responsible to follow up our partners as well to make sure they execute on relevant guidelines and regulations. This requires a sharp focus and systematic work from our side in order to make sure all suppliers in our projects share our high ethical standards and act according to our rules and guidelines.As a significant player in the market, we also want to take our share of responsibility to develop the industry, that is why we have chosen to join the Fair Play initiative in Norway to support and contribute to this process. Fair Play is an organization driven by unions, which conducts independent control at construction sites to make sure that all players comply with the rules. It's to our advantage that all players compete within same rules and that less serious players are eliminated.As commented previously, our order intake has been on the weaker side in second quarter. The volume of smaller contracts and growth in existing contracts leads to unannounced orders of NOK 753 million. Announced orders was NOK 554 million, and we need to see more wins of medium- to big-sized projects to get the required growth going forward. With currency effects, the order book is NOK 7.5 billion at end of quarter 2.The main reason for revising the margin expectations for 2021 is our order book. It's not the quality of the order book, but the size of the order book. Even though we continuously seek to increase the flexibility of our cost base, we need to run more revenues through our books to see EBITDA margins above 4%.We have a set up now where we can run more projects through the organization without increasing the fixed cost base much. Currently, the order book for '21 is at the same level as we saw for 2020 1 year ago, which indicates a moderate growth next year. If we get a higher hit rate rest of the year and the good production profile on the wins, we will enable higher growth and margins above 4%. But based on the current order book, a guiding of up to 4% margin in 2021 is more correct.As I said, we won too few medium- to big-sized projects this year. We have been close. So I'm not worried about our competitiveness, but it's a part of the game in our industry [ that has been led by us. ]The market outlook has not changed significantly this quarter. The long-term outlook remains strong. The tender pipeline is up to NOK 19 billion from NOK 18 billion last quarter and still strong in Norway and Sweden, but low within core rail construction in Finland. The long-term outlook is also confirmed by political decisions last quarter. In Norway, the parties supporting the government were able to change a delay of the intercity construction to Hamar, of course, very positive for us.In Finland, the government stands firm on their willingness to invest in sustainable infrastructure, and we can also see that funds from the European Union flows to both Sweden and Finland, supporting investments in infrastructure.So in long-term, the market outlook is strong and supporting very well NRC Group's growth ambition with a 9% annual revenue growth. So to sum up, we are on track with the improvements in Sweden and Rail Norway. We have done several measures during the past 9 months, and we start to see the results of this. And I'm proud of how this change process have been carried out in the organization.In Finland, we need to do additional measures that when implemented, it will give us more flexibility and increase our competitiveness going forward. Overcapacity in Finland and lower revenue expectations in Civil Norway have made us revise down the margin expectations for 2020 to 1.5% to 2%.But with a strong tender pipeline in Norway and a clear path on how to mitigate the overcapacity in Finland, we believe it to be a temporary character. However, with the current order book, where our best estimate is moderate growth for 2021, we have revised down the guiding for '21.To lift the profit level above 4% in 2021 requires a higher growth rate. This is still within reach if our hit rate increases for the rest of the year and we win medium- to big-sized projects with a high production profile in 2021.The long-term ambition for 2024 still stands. The market outlook is strong. We see clear improvements in the areas we struggled in 2019. And the organization as of August 2020 is much stronger than 1 year ago.Thank you.