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Ladies and gentlemen, welcome to the Oerlikon Q2 Half Year 2022 Results Conference Call and Live Webcast. I am Sandra, the Chorus Call operator. [Operator Instructions] And the conference is being recorded. [Operator Instructions] At this time, it's my pleasure to hand over to Stephan Gick, Head of Investor Relations. Please go ahead, sir.
Good morning, ladies and gentlemen, and welcome to Oerlikon's Q2 results call. With me in the call I have Philipp Muller, CFO of Oerlikon. Philipp will start the call with presentation, providing an update on our financials and end markets. We will then follow up with the Q&A. With that I would like to open our presentation and hand over to Phil. The floor is yours.
Thank you, Stephan. Good morning, everyone, and welcome to our second quarter results presentation. Q2 continued our strong track record of growth. We achieved the highest sales and EBITDA since we refocused our company on 2 divisions. I will start with an overview of the group results on Page 2, followed by more details on our end markets, the division results and the outlook for the remainder of the year. At the group level, orders were CHF 773 million, up 19%, driven by strong demand in Polymer Processing Solutions. Our sales were up 17% to CHF 734 million. Both divisions contributed to the sales increase. Our group book to bill ratio was 1.1 in the first half of the year. Operational EBITDA was CHF 128 million, a 15% increase versus the prior year. EBITDA margin was 17.4% in Q2. Positive operating leverage and tight cost management were partially offset by negative mix effects. In the first half year, our margin rate improved 30 basis points versus the prior year to 17.2%. With that, let me provide you an update on our end markets. In Polymer Processing Solutions, we experienced strong demand and solid market fundamentals. On the filament side, our positive outlook is supported by the vertical integration at our customers and their needs to invest in next generation technologies. Our latest solutions save significant energy, reduced waste and optimized space for our customers. Oerlikon is the technology leader in the filament equipment market and we are leveraging our knowhow in other markets. In Q2, we saw continued substantial organic sales growth in nonfilament, which was up 13%. We see strong demand for plant engineering solutions and carpet yarn. Flow control which includes our recent acquisition of INglass continues to perform strongly. Overall, we are well on track with our plans to transform Polymer Processing Solutions into a growth platform. In the Surface Solutions division, we are operating across the tooling, automotive, aviation and general industries end markets. Growth differs by end market. The general industries end markets saw mid-teens growth, basically across industries and relatively evenly spread from a geographic viewpoint, except for China. We saw particularly strong demand in luxury, semiconductors and energy. In the second quarter, we continue to see lower activity in the automotive end market due to global supply chain challenges. We were indirectly affected by temporary shutdowns of major customers. Industry forecasts expect sequential growth in the second half, but have been revised downwards over past weeks, given some of the bigger macroeconomic concerns. Finally in aviation, we see continued volume growth as increasing flying hours are driving MRO activity. Overall, aviation still remained substantially below pre-pandemic levels. In Q2, the lockdowns in China muted the growth profile in narrow body, while the wide body market showed signs of increased activity. Summing up, we see a strong market environment in Polymer Processing Solutions. In Surface Solutions, we expect some easing of supply chain constraints to underpin growth in the second half of the year. Clearly, when looking at the broader macroeconomic picture, there are some concerns about growth. However, so far, our immediate customers and our own operations have not experienced any slowdown. With the increased uncertainty, we continue to focus on a flexible cost structure and staying agile. Now, let's move on to Page 4 with the financials for our Surface Solutions division. Orders worth CHF 348 million, up 3% FX adjusted, while sales increased 12% in local currency to CHF 352 million. We saw solid demand in general industries and tooling and our aviation business continued its recovery in Q2. Impacts from supply chain shortages were in line with our expectations. We expect continued impact from shortages in the second half of the year, though at a reduced intensity compared to the first half. To a certain extent, the situation remains difficult to predict. There are still a number of factors, which make predictions into the future very difficult. Primarily, the impact from potential lockdowns and the war in the Ukraine. Operational EBITDA in the second quarter improve 4% to CHF 63 million. EBITDA margin was at 17.7%. Operating leverage and cost control were offset by negative business mix. These mix effects were driven by significantly lower sales in some of our high margin businesses, like thin film coating solutions. The lack of activity was due to the transitory disruptions of our customers' operations. Based on current visibility, we expect these effects to reduce in the second half of the year as activity in these high margin businesses returns to normal levels. Margins were also impacted by rising input costs in the first half of the year. We are passing those costs on to our customers. Depending on the business, this happens immediately or with a certain time delay. This time delay also negatively impacted margins in Q2. Next, on Polymer Processing Solutions. Orders in Polymer Processing Solutions were CHF 425 million. This is up 40% versus the prior year. Both filament and nonfilament are growing. Sales of CHF 383 million were up over 27% in local currencies. On the one hand, this was supported by strong organic end market demand. On the other hand, INglass contributed and accelerated our diversification into nonfilament. Organically, sales were up 18% at constant exchange rates. We saw a certain shipment delays driven by our operations and our customers' operations in China. This shifted some orders and sales from Q2 into the second half of the year. Overall, we are well on track to reach our full year guidance of approximately CHF 1.5 billion in sales. Operational EBITDA increased 33% to CHF 65 million. Margins were up 120 basis points to 17.1%, supported by operating leverage, cost efficiency and the INglass acquisition. With that let's move on to cash flow. First half cash flow from operating activities was CHF 22 million. On net working capital, we experienced the usual seasonality, a buildup of net working capital to the revenues in the second half of the year. The impact was a bit stronger than in other years due to higher raw material prices and a higher buildup of safety stock. We are managing networking capital with a lot of focus and are on track for a full year plans. We expect operating free cash flow to strongly improve in the second half as networking capital seasonality reverses. Next, on return on capital employed, which is, as you know, the primary compensation component in our long-term incentive plans. Organically, we improved ROCE to 10% at the end of the first half. Including last year's M&A transactions, ROCE was at 8.6%. So we are closer to the minimum target we have set ourselves, but not there yet. The positive trend gives you strong indication that our improved cost management and highly focused approach to capital allocation are having an impact. Our clear goal is to reach double digit ROCE on a sustainable basis. Let's move on to the balance sheet on the next slide. As per the first half of 2022, our company has a solid 33% equity ratio. Our net debt to EBITDA ratio was right at 1 time, compared to 1.1 times a year ago. This includes the impact of net working capital as well as the dividend which we paid in Q2. We expect to end the year below 1 time net leverage, in line with our commitment to continue to run the company with a strong balance sheet. With that let's conclude the presentation with our outlook. The continued focus on executing our strategy has positioned Oerlikon well for profitable and sustainable growth. We have delivered solid growth in the first half of the year and achieved the highest sales and EBITDA since we refocused our company on 2 divisions. We are laser focused on margins and returns. Our ROCE came in at 10% when excluding M&A. This progress is supported by our strong capital allocation framework. In terms of sustainability, we are delivering on our own targets and helping our customers to reach their objectives. We have positioned the company to benefit from sustainability megatrends. Based on our strong first half results, and current visibility we confirm our group guidance. We expect group sales at approximately CHF 2.9 billion, and group EBITDA margin to be approximately 17.5%. Naturally, the details of the remainder of the year are increasingly difficult to predict, given the geopolitical events and the COVID pandemic. As I said earlier, there are some broader concerns about growth, which have not impacted any of our activities yet. Based on what we see today, we expect Surface Solutions to be closer to the lower end of its sales and margin guidance. In Polymer Processing Solutions, we are very well on track with our guidance supported by the strong start to the year and a full order backlog for the remainder of 2022. With that, let me open it up for Q&A.
[Operator Instructions] The first question comes from Sebastian Kuenne from RBC.
My main question is on the polymer business where you had a very strong margin in the first half, but your guidance basically implies that the margin is about to drop by a 100 bps later this year. Can you explain what momentum you expect in terms of revenue and why you think the margin will go down?
Sebastian, I would say there's obviously always a little bit of project mix in Polymer Processing Solutions and so on. And then, I think depending on how the year turns out, there's maybe also a little bit upside to what we've seen.
So it's more like a conservative view, but the content of the project is not changing, why? Because I would assume the pricing is very strong and the existing order book is getting even stronger now going forward, wouldn't that be true?
You're exactly right. So we really have --there's not sort of a hidden message in that. I think the order book continues to be strong, both in terms of its resilience and the pricing in the order book.
Okay. And then maybe just briefly on surface. The comps for the automotive part of the business probably very easy now in the second half. Is there any reason to believe that the mix is changing there as well? If automotive is stronger, does that make a difference to you guys that the mix is changing or can we assume just a similar mix then in -- like a margin mix than in the first half?
Yes, that's clearly makes a difference to us, Sebastian. When you think about the first half mix, one of the factors -- a negative factor here is really that we're basically maintaining our entire fulfillment structure for our auto related service business, because our customers really only have transitory shutdowns here. So for us to structurally adjust our cost footprint would not be smart. Now in the second half of the year, when auto picks up even slightly, that is a highly profitable service business for us, and it'll allow us to absorb our costs a lot better. And so when you think about what we're indicating here, second half Surface Solutions margins being stronger than the first half, it's really largely driven by that effect.
The question comes from Michael Foeth from Vontobel.
3 questions from me. The first one is regarding inventory and the increase in inventory. Maybe can you help us a little bit, to what extent does that increase in inventory related to pricing? Within that inventories, you mentioned higher raw material prices and to what extent is it safety buffer, to what extent is it just to make sure you can deliver on second half demand? So a bit of granularity in the inventory. The second question is regarding Surface Solutions. You mentioned very strong business in luxury, but in your interim report you also mentioned the adjustment or reassessment of the contingent consideration for Coeurdor. Can you maybe just put that into perspective and tell us what that reassessment is about? And then yes, finally, the order pattern for Polymer Processing into the second half. What are sort of your expectations? You said there are some orders are being pushed into the second half, but yet, the first half was already really strong in terms of order intake. So how should we look at order intake in Polymer Processing in H2?
The first one on inventory. Inventory was up about a CHF 120 million in the first half of the year. I would say 10% to 15% of that is really higher raw material prices, and that's specifically a comment for our materials business. Then I would say 10% to 15% off that increase is a conscious decision for safety stock that we will maintain. I think we're expecting quite part -- a substantial part of that to be depleted until the year-end. And then the rest about, 2/3s is really volume driven. So we're expecting to execute through the majority of that in the remainder of the year. I don't expect the entire net working capital effect to reverse, but again we're expecting net working capital to be a source of cash in the second half of the year. Still will be a use of cash for the total year, but a source of cash in the second half of the year. And a lot of that source of cash is driven by our executing through the inventory balance. Then the second one, I think luxury continues to be very strong, and the Coeurdor acquisition performs right in line with our expectations. During the purchase accounting, you sort of make all sorts of contingent considerations for different cases. And I think the fact that the Coeurdor acquisition is performing right in line with our expectation and exactly how we underwrote it, kind of leads you to this adjustment on the contingent considerations. I think for us that's a positive sign. And then lastly, on Polymer Processing Solutions orders, I think you're exactly right. We did have a strong first half. We're foreseeing a strong second half of the year too. I think for the total year, you heard us on the sales guidance, we continued to expect a positive book-to-bill for Polymer Processing Solutions for the total year. We continue to expect a very strong 2023 and so I would say no changes. You had a slight move here in terms of Q3, Q2 timing, specifically as it relates to sales, though, not so much orders, but specifically sales, and that was driven by the lockdowns in China. But we're not talking a material amount on this.
The next question comes from Christian Obst from Baader Bank.
I have 2 questions. One is, can you give us an idea also for the INglass impact? This is first one. And the second one, more broadly about -- you talk about the strong capital allocation framework, can you give us again or remind us for these guidelines you have there for the cornerstones of this framework and what you expect, what you can going forward in the next 12 months to improve that further?
Thank you, Christian. INglass is actually performing quite a bit ahead of our expectations, both from the sales and from a profitability standpoint. When you look at the numbers that we showed in the first half about 6 to 7 percentage points of growth in Polymer Processing Solutions are actually from the INglass acquisition. And again, probably doesn't make as much of a difference to the total Polymer Processing Solutions division, but specifically INglass is performing quite a bit ahead of the expectations that we had when we closed the acquisition. Driven by 2 things. I think the market continues to be very strong. And INglass actually is managing to grow faster in non-auto and gain share there faster than we initially expected, so I think that's a positive. And in capital allocation, Christian, I go back to the chart, the 4 blocker that we've shown a couple of times. On the Y-axis, you basically have capital returns and on the X-axis, you have growth. And the point is really that we're at a pretty granular level, we are measuring investments. And to the extent that they're not contributing to us driving to the top right quadrant in here. So above group average growth and above group average capital returns. We will make those investments only in a very, very restrictive manner. So in other words, by definition, you have some units and some parts of the business that are below the average. But I think the competition for capital, both in terms of R&D and in terms of CapEx and for sure, in terms of M&A is very, very tight. And I think we're strategically moving more and more capital in those highly accretive areas.
So also think about divesting or closing or reducing activities at the lower end of the framework?
Absolutely, besides not investing in these areas. You're exactly right, I wouldn't. Now think about large parts of the company, I think we're more talking about smaller areas where we feel like we're not going to be able to gain a competitive edge. So don't think about any bigger parts, but I think a constant portfolio review is absolutely part of this. And specifically there, where we have the feeling, even with an incremental investment or incremental management attention, we won't be able to fix it. So that is for sure part of the strategy.
Okay. And the last one on that is then, of course, when it comes to additive manufacturing, what is the current 12 to 24 months plan for that?
I think additive is right in line with what we told you both in terms of the growth trajectory and also in terms of the dilution effect that it still has on Surface Solutions, so really right in line with what we expected.
Next question comes from Alessandro Foletti from Octavian.
I have a couple. First on polymer processing, I wonder if you will not reach at some point, capacity limits or capacity issues, I calculate that you may have to deliver more than CHF 400 million per quarter in the next 2 quarters.
Yes. Alessandro, we are really not worried about our own capacity. I think we are very, very focused on making sure our supply chain, our suppliers deliver their products and services to us in a timely and reliable fashion. I think we still have the ability to flex the existing capacity quite a bit. And I'm talking specifically about the filament space, right? We continue the strategy. We're not building out capacity here where we flex that capacity with additional working hours. We generate quite a bit of efficiency and productivity on our shop floor there, both in Germany and in China. No additional capacity requirements and we continue to -- where we build out capacity is in the nonfilament space because we see the growth there happening. So I think the constraint is really not on our side.
And can you confirm on this subject that all your main competitor from what you can tell is not expanding capacity massively on the filament?
Yes.
All right. And if we look a little bit more further down the road in this part of the business next 2023, you said you basically filled up '24, you're filling up. What do you think is your outlook? I mean you've been doing really a good job, but people continue to remain worried about the potential downturn. What can you say about that?
Yes. I think when you look back at what we also talked about at the Capital Markets Day, Alessandro. We see the growth drivers really from a couple of different angles. And I'm talking specifically about filament there. You continue to have a vertical integration by our customers, which is driving a lot of growth and growth in quite a different pattern than we probably used to see with the smaller, more distributed customer base over the past decades. That's one. I think you see a renewal cycle that continues to be driven especially by the demand for more energy efficient systems and solutions, which we are satisfying as the market leader in this space. In addition to that, I think we've talked about a diversification strategy, kind of a China Plus One strategy that provides quite a bit of optionality for us. Many customers are saying they want to have at least one source in addition to buying from China due to some of the geopolitical things that are going on. Here again, I think that will be beneficial for us because at the end of the day, we are agnostic to where the customer location is. So I think we have a strong order book here, very, very long-term horizon with the investment plans of our customers. You know that the nature and the size of our customers there has really changed over the last 5 years. And so I think a very positive outlook. And then again, as a reminder, we're really focused on building out that nonfilament space. It's about 40% now of the division, and we'll continue to build that out to really diversify above and beyond the filament space.
All right. And if I may add a quick follow-up again on the filament side. This renewal has been going on now, however, since the last downturn I would say at least 2, 3, maybe 4 years. Do you have an estimate of how much of the capacity that needs to be upgraded has been upgraded so far?
Yes. And Alessandro, I would not say that, that renewal cycle, really, this technical viewpoint has been around for that long. I think before that, what you've really seen is this consolidation into bigger customers, right? I think what we talked a lot about, and you've seen that is the big customers basically with very significant increases in capacity, basically pushing smaller competitors out of the market. I think that's -- if I were to describe the last 5, 6 years, that was probably the bigger trend in this renewal cycle with higher requirements for energy efficiency is really something that's newer.
The next question comes from Tommaso Operto from Credit Suisse.
3 questions, if I may. Firstly, you mentioned an agile cost structure for the case that the macroeconomic environment would deteriorate. Could you give us some more color on where you are able to take out more costs, given that you have already taken out quite some administrative costs last year? And then secondly, on Surface Solutions, given that you reiterate your guidance on sales and margins, where does the margin pickup really come from? Is it operational leverage or mix effect or yes, if you could give us some more color here as well? And thirdly, at the Capital Markets Day, you put the expansion towards the U.S. and quite some focus for Surface Solutions. So I was wondering if you could give us an update on how the expansion over there is going on.
Thank you, Tommaso. On the first one, the agile cost structure, I think here it is probably less so about taking out more headcount. That is actually not the focus at all. But I think building it up a lot more slowly than revenues are growing and really leveraging efficiencies here, which you also see in the margin increase. When you look at total headcount from the beginning of the year to the up about 2%, 3%. Revenues in the first half are up about 20%. So that's basically what we're talking about. I think we're talking about leveraging digital technology, a lot more intensively to scale our operations. And then we're talking about really -- especially in the places where that's not a given in Europe and so on, using cost structure that's much more flexible in nature. So for example, when we have short-term labor needs, we fill that with temporary resources. We fill that more with an extended work bench with external suppliers. So in case something changes, we can really reverse that again. I think that's really the core focus and that's more so than just related to the current environment that is anyway the strategy, specifically for our Surface Solutions platform to make the overall cost structure a lot more flexible. Your second question on the sales guidance, you saw that we're forecasting -- when you look at kind of what we're saying about the guidance, a slight increase in sales in the second half versus the first half, really driven by the pickup in auto production. And that's also the biggest factor then on the margin guidance. So I think we're going to have a little bit of positive impact from a cost absorption standpoint from slightly higher sales in the second half of the year and the cost structure being flat or maybe even slightly down. And then you have that favorable mix effect because this is a very high-margin service business that we're expecting to pick up. Now not a huge pickup. We're not expecting that back to pre-pandemic levels, but I think a favorable mix impact for us anyway. And then your last question, I think in the U.S., we talked about that at the Capital Markets Day. The U.S. is a huge growth opportunity for us, specifically in Surface Solutions, just given the lack of penetration that we have in the overall market. I was over in the U.S. a few weeks ago, and I would say we're making very, very good progress on the strategy. It probably also goes back a little bit to Christian's question earlier on capital allocation. We have a huge focus on building out capacity in the U.S., really allocating enough resources to the business development there. Some of these are very strategic. Some of these business development opportunities are very tactical in nature, so really customer-by-customer and application-by-application. And so from a company standpoint, we provide all the necessary resources to drive that and we have a great leadership team in the U.S. that is picking that up.
The next question comes from Sebastian Vogel from UBS.
I've got here also 3 questions. I would ask them one by one. The first one with regard to the end markets, you have described them already what you have seen in the second half or in the second quarter. However, I would be interested in how June was or how June exit demand was sort of comparing to the sort of average levels that you have seen over the course of the quarter? And also, if you can share some light into how July was starting, that would be appreciated.
Yes, I would say June was, for sure, more in line with May, so I think the curve from -- and I'm talking about the Surface Solutions end markets now. I would say there has been a pickup -- sequential pickup from January until -- through April. And then May and June and now also July really being at a more elevated level. So a slower start to the year, and we're certainly seeing a pickup there. And I think that's true for all the end markets ex-auto. And then in May and June, specifically in June, we certainly had a dent driven by China. China experienced a significant slowdown, and now you see that reversing a little bit in July, where the overall trend that I described is still true. China is getting stronger now. You see a certain rebound, not huge, but you see a certain rebound. And then I think the swing vote is going to be the activity in auto, and that's really a global comment that's true for all the geographies.
Got it. And with regard to the usage of gas in your German facilities, do you have any much exposure in your production processes over there? How you're dealing with situation?
No. Actually, gas is not a part of our production process -- not a material part at all of our production processes. So I think we use it to a certain extent for heating office spaces and so on, but that's it.
Got it. And sorry, one quick more maintenance question. Can you quickly remind me on your CapEx plans for 2022?
We said we're going to spend about CHF 150 million on CapEx, and you saw us being a bit slower on that, just under CHF 50 million in the first half. Overall, we're still saying it's roughly unchanged, probably right around a CHF 150 million, maybe a little bit less.
The next question is a follow-up from Sebastian Kuenne from RBC.
2 follow-ups regarding China. First of all, the China lockdown, to what extent did it impact your deliveries of filament machinery, nonfilament machinery? And would you not expect kind of a catch-up effect in the second half? And the second question on China Plus One, you mentioned the -- that clients are seeking alternative sources for equipment. Does this specifically relate to polymer or is this just a general observation that you make? Or do you really think that people are now trying to reduce the 80% exposure to China and kind of get to other Asian markets and build capacities there. So can you maybe just elaborate on that?
Yes, of course. Sebastian, the China lockdown catch-up effect will be there. Absolutely, it's just not overly material. At the end of the day, the lockdown was in the Shanghai province. We only have one rather small factory there that was shutdown. And amazingly, some of our employees maintained a certain level of production there during the lockdown. So we will see a catch-up effect there, order sales and margin in both divisions, but it's not going to be overly material. At the end of the day, you didn't see a massive dent. And then for us, the China Plus One will be a topic in Polymer Processing Solutions. Our Surface Solutions business is very local. So I think replacing that with a different geography is not a likely scenario. This is a local service business predominantly. In Polymer Processing Solutions, the large customers might very well choose that strategy. I think it is still very early on to tell how specifically that's going to work. But when I look at the bigger lay of the land, so above and beyond of Oerlikon, I think many customers are thinking about this, right? I think the dependency on China and Chinese geographies and then the challenges that has created post-pandemic is real, and I think there are also political considerations behind that. And semiconductor is maybe the area where it's already the most specific in terms of plans to also have a source that's non-Chinese. So for us, Oerlikon only relevant in Polymer Processing Solutions, the plants are not 100% specific yet, but we're well prepared for when and if that comes. But broadly speaking, I'm sure you see this in other companies as well.
Yes. But it's not in -- is it an Asian large chemical companies that want to establish a big plants in Vietnam? Or is it -- do you think more direction of U.S. establishing their own man-made fiber industry, and reviving their industry.
For us, it's really a global phenomenon. It is not so much the U.S. But you really you think Turkey, Egypt, Southeast Asia, maybe even some Southern European countries and so on and so for us it is a broader topic. And we obviously know all the potential clients there.
Very quick follow-up. German labor costs, what is the current discussions with the works councils [indiscernible] what are they demanding at the moment?
We haven't really entered into the specific discussions with labor representatives. But I would also say this is not idiosyncratic to Germany, right? I think we live in a -- at least at the moment, highly inflationary environment. And so the fact that we will not be wanting to ignore that on behalf of our employees is also clear, right? I think this is -- in this inflationary environment, employees rightfully have an expectation for salaries and wages to increase as well. And we will not only in Germany, but everywhere around the world, we'll make sure we stay competitive to keep the best talent on board.
Great. So thank you, everybody. This concludes today's call. In case of further questions, don't hesitate to contact us in the IR team. Thank you for your attention today, and g and goodbye.
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