Lindab International AB

STO:LIAB

Earnings Call Transcript 2022-Q3

[Operator]

Good morning, and welcome to the Lindab Q3 2022 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Ola Ringdahl. Please go ahead.

[Ola Ringdahl, executive]

Thank you very much. Hello, and welcome to this call. My name is Ola Ringdahl, and I'm the President and CEO for Lindab Group. Next to me, I have our CFO, Jonas Arkestad, who will help me to answer questions. Let's start on Slide #2. Lindab continues to develop in a positive direction. We have gone through a major transformation in the past 3 years. We have divested out from billing systems and focus on our core business in the HVAC and ventilation segment. We have upgraded our production sites through an ambitious investment program, and we have managed to complete 17 acquisitions in the past 2.5 years. In Q3, Lindab increased sales by 30%, of which 20% are related to acquisitions. Felderer in Germany and R-Vent in the Netherlands are the main contributors to the acquired growth. The organic growth in the quarter was 7%. Our operating profit was a solid SEK 361 million compared to SEK 403 million last year. The operating profit is one of the highest Lindab has ever achieved for a single quarter. The adjusted operating margin reached 11.1% in quarter 3 and 12.1% year-to-date, which is above our financial target of 10%. The operating margin is lower than for Q3 last year, and it should be noted that the comparison numbers are high. I will comment more on the margin development later in the presentation. Let's take a closer look on the sales development on the next slide. For Lindab the quarter began with unexpectedly weak sales in the month of July. But during August and September, sales developed as expected. Sales in the acquired companies have developed well. Ventilation Systems reported organic growth of 8% in the quarter and Profile Systems reported organic growth of 6%. In July, we experienced lower volumes than previous year. In August and September, volumes were more in line with the previous year. Now we move to the EBIT development on the next slide. And on this slide, you can see a 12-month rolling trend of the adjusted EBIT margin. And you can also see the red line, which is the quarterly margin development. Lindab has had strong earnings growth and margin development during the past 4 years. The margin level in 2021 was particularly strong, especially in the third quarter, as you can see in the graph. There are 3 main reasons why we see lower operating margins in quarter 3 of this year versus last year. First of all, the comparison numbers are clearly challenging. If we look at the years 2018 to 2020, the average operating margin for the third quarter was 10.8% for Lindab. In quarter 3 of 2021, it was 16.2%. As I have mentioned in previous calls, Lindab's operating margin in 2021 was boosted by increasing raw material prices. Lindab managed that well and reacted quickly. We managed to increase prices to compensate for these effects and we were successful in doing so. During the past 6 months, steel prices have declined and Lindab is experiencing the opposite effect of 2021 since we prioritized high delivery capacity and the necessary safety stocks so that we can always deliver to our customers. This means that there is pressure on our gross margins during the second half of the year as we turn over our stock of raw materials, but these effects will pass. Secondly, the high energy prices in Europe have created strong cost inflation for raw materials and for transports. In an already strained market, Lindab has not been able to fully compensate for this yet. Finally, there is a margin effect from the acquired companies. The acquired companies are profitable and successful companies, but they are joining Lindab with a lower average profitability margin. The dilution effects on the operating margin in quarter 3 is approximately 1 percentage point. Over time the acquired companies' margins will increase as the positive synergies are implemented. Now let's move to the next slide and the financial position. Cash flow from operating activities increased to SEK 216 million compared to SEK 202 million in quarter 3 last year. Our cash flow has been strained in the past year because of the high raw material prices, and we have tied up additional cash in our inventory. If the steel prices remain stable on the levels we have seen since August, we expect a positive impact on Lindab's cash flow in the next coming quarters. Net debt has increased as a result of completed acquisitions and increased capital paid up in stock of raw material. It is not the stock levels as such in tonnes, but rather the changes in raw material prices that are affecting the stock value. The net debt-to-EBITDA ratio is at 1.3, which is on the right side of the target level that we have to stay below 3. Our financial position remains strong and supports continued growth, both organically and through acquisitions. With that, I would like to move to the next part of the presentation, building a stronger Lindab, will start on Slide #7. So let's start by talking about acquisitions. Lindab's strategy is to acquire well-managed successful companies that complement our offering in selected regions and product areas. The acquired companies continue to operate independently under their own brands, while at the same time benefiting from Lindab's sourcing agreements, expertise and sales network at their chosen pace. And during the quarter, we have acquired 4 companies. In June we announced the acquisition of Muncholm. And with Muncholm, Lindab gains established relationships with architects, builders and tinsmiths in Denmark. Acquisition was closed in July and adds approximately SEK 250 million in revenue on an annual basis. Muncholm will belong to our business area of Profile Systems. In July we acquired Girovent in Sweden. They manufacture rectangular ventilation ducts in the Stockholm area. Girovent will be part of Crenna, and Crenna was an acquisition that we made in 2020. Both Girovent and Crenna produce rectangular ventilation ducts, and we see very good synergies between these 2 companies and with Lindab overall. Girovent has sales of approximately SEK 55 million on an annual basis. In September, we made an acquisition in the U.K., and this was in the area of fire protection. DISYS Technologies have developed intelligent fire and smoke control and monitoring solutions for Ventilation Systems. They have sales of approximately SEK 18 million on an annual basis with excellent growth prospects and very healthy margins. Also in September, we made our first acquisition in a long time in France. With Liftasud, we'll increase sales in France by 50%. Liftasud gives an extended distribution network, and we gain access to a broad range of HVAC products. Liftasud has sales of approximately SEK 250 million on an annual basis. So in total, we have made 8 acquisitions in 2022. And in 2020 and 2021 combined, we made another 9 acquisitions. The companies we acquired in the last 12 months have added 20% sales growth in the third quarter. Some of the larger acquisitions have had a lower margin than Lindab in general when they have entered the group, and this makes the average margin for the acquired companies lower than the group. As these are well-managed companies where we have dedicated and skilled management teams, I'm confident that the margin levels will increase over time. A good example of a positive synergy comes from Felderer in Germany. They are one of Germany's largest ventilation distributors, and we acquired them in April. They are now planning to launch the Lindab's safe ventilation ducts as part of the product offering. This is an excellent way to please both customers and raise the margins for both Felderer and the Lindab Group. With that let's move to the next slide. Investments. Lindab's investment program has been at the top of our agenda since 2019, and it's rewarding to see how the benefits become more and more visible. In the third quarter we invested SEK 72 million in our operation -- in our European operations, and we'll continue to invest on a higher level until 2025. But this will gradually be reduced every year now since we have completed a large part of the program. We reached the peak of these investments in the year 2020. Now let's move to Slide 9 and talk about Lindab's market in the future. We have shown this slide before about the increasing demand for energy efficient and sustainable solution. And this remains very high on the agenda and especially so with the current extraordinarily high energy prices in Europe. Buildings in Europe make up about 40% of the total energy consumption in Europe. And to reduce the amount of energy consumed in Europe, we believe that there will be a major renovation wave in terms of energy efficiency for buildings. We can already hear from the major ventilation installers that they are increasingly busy with energy efficiency projects. The demand for energy efficient ventilation and sustainable solutions will favor large suppliers with premium products and a strong sustainability profile. Lindab is really at the forefront here, and we aim to take a leading role in this transformation all across Europe. We'll move to Slide 10. Outlook and priorities. In the short term, we're prepared for a scenario with lower demand and volumes for both business areas as the construction industry suffers from higher costs, rising interest rates and longer decision times. And this is specifically for the part of Lindab's business, which is aimed at the new construction of new buildings. However in the medium term, we're quite optimistic about both the industries and Lindab's prospects. The high energy prices put even more focus on well-insulated buildings and energy efficient ventilation, which benefits Lindab. We expect a long period of renovation of public and private properties in Europe. As Lindab has half of its sales today towards renovation and remodeling, we see good -- very good growth opportunities in this segment as necessary energy efficiency projects are started throughout Europe. Within new construction, the demand for sustainable and energy efficient buildings will increase further, also to the advantage of Lindab and our leading product range. If we talk more about Lindab's near-term priorities, obviously, in the current economic environment, we are working with proactive cost measures to balance costs and future outlook on demand. We are also adjusting our pricing to mitigate higher energy and transportation costs. Finally, with our strong balance sheet, we intend to continue to pursue attractive acquisition opportunities. The European HVAC industry is still fragmented, and there are plenty of opportunities to create long term value as an aggregator in this industry. And Lindab intends to play a leading role here. We have a clear plan for Lindab will continue to develop positively. After the transformation of the business in recent years, the subsidiaries in the group are well managed and profitable. And in our decentralized management structure, they are able to make quick decisions, and they take very high responsibility for delivering the required results. We now conclude this presentation, and we open up for questions.

[Operator]

[Operator Instructions] Your first question comes from Carl Ragnerstam from Nordea.

[Carl Ragnerstam, analyst]

It's Carl here from Nordea. Firstly, you just said that you're looking to adjust prices again. What increases are we talking about? When do you expect to sort of implement them? And also on that note, I mean, we heard rumors that -- or actually the fact that one of your biggest competitors is actually lowering prices on several ducts. I mean, so what is your pricing strategy from here? I guess, raising prices, are you worried to sort of have long-term effects on your market shares when competitors are lowering or how should we look at that?

[Jonas Arkestad, executive]

Thank you, Carl. Well, I think there are several components in the pricing, which you need to take into account. And of course, if transport costs increased significantly because of higher prices of diesel and other factors, it is necessary to compensate for that. Lindab is working very much with trying to be a sustainable company and to reduce the carbon footprint. And we think that putting the correct price on transport is a very important pricing mechanism to encourage a behavior, which is also taking the environment into account. We are able to absorb higher transport costs. So these types of course, need to be forwarded to the user, to the customer. If we talk about electricity and energy costs, well, we have seen very sudden increases in Europe, especially after Russia's invasion of Ukraine. And normally, in a normal environment, these types of costs are built into the product price, so to say. But we see that with these significant fluctuations in energy prices, we need to either add them more quickly to the product pricing or in many cases, we need to add them as an extra charge for specific energy costs. So there are different ways to compensate for this. If we talk about the general price level, we do not see any possibilities to reduce prices at the -- given how the inflation in Europe is working. Yes, steel prices are coming down, but many other costs are increasing rapidly. So all in all, I believe that price stability is what we will aim for going forward with some certain surcharges on specific costs that have increased significantly in the past months.

[Carl Ragnerstam, analyst]

But if we look back during the past, I mean, 2 years or so, I mean, we had obviously scarcity of steel. You had big inventories and that -- by that, of course, with a good brand also, but you managed to push forward prices quite nicely. Do you believe that your customers will take price increases now that we don't have scarcity of steel anymore?

[Jonas Arkestad, executive]

I think there is no risk and/or nobody wants to implement any unjustified price increases. So that is not what I'm talking about here. I'm simply talking about compensating for the increased costs that you have as a major supplier. We aim to have a fair and reliable pricing to our customers, and we believe that to have a long term pricing agreements with the customers is very important. But it is also important that the customers know that you can always deliver. And we have proven that during very tricky times during the pandemic and during scarcity of material and also in connection to Russia's invasion of Ukraine, but we can always be relied on to deliver to our customers. And I think they very much appreciate that. Then of course, we aim to have a fair pricing model, definitely.

[Carl Ragnerstam, analyst]

And also a bit on sort of the margin impacts in the quarter. Is it possible to sort of rank the 3 points you're making in the report of negative impacts, which one is sort of the bigger effect?

[Jonas Arkestad, executive]

I think they are in the order that they are written today is the correct ranking. The major or most important effect is the raw material effect. We had a tailwind last year, and we have a headwind during the second half of this year. So we today have an inventory of raw materials that we have to turn over for the price levels or the cost of steel to come down. That takes around 2 quarters to do that. So we are in that period now. Back-end effect mentioned in the comments is the other types of inflation that we see in Europe, much of it is energy related. But not everything is energy related. We also see a broader cost inflation in Europe, including salaries and a lot of different materials and services. So that would be the second one on the list. And the third one is the natural consequence of the acquisitions that we have made. The acquired companies are performing well, and they have developed very well under Lindab's ownership as well. But they do enter Lindab at a somewhat lower margin level and thereby they dilute initially the operating margin for Lindab. We will gradually work on that and get them up to the good level of profitability.

[Carl Ragnerstam, analyst]

And by that, with sort of constant steel prices from here, you said half year inventory cycle, then is it fair to assume that you'll have a neutral steel price impact already in Q1 or Q2 then or?

[Jonas Arkestad, executive]

Around that time, yes. It's difficult to say next month because it depends also a bit on how the volumes are developing, et cetera, but it will be in Q1, Q2 where these effects are diminishing. And that is, of course, assuming that we have stability in raw material prices going forward. And we will see about that. We have seen stability of steel prices at least since the month of August. But we've gone through a period of 2 or 3 years here with extreme movements in raw material prices. So it's best to be cautious when guessing what the steel prices will look like 3 or even 6 months from now.

[Operator]

The next question is from Douglas Lindahl from DNB Markets.

[Douglas Lindahl, analyst]

I wanted to ask about your -- well, obviously, the new construction business is most likely entering a tough period here in 2023. But talking about the renovation part of your business, 50% of sales, what sort of visibility do you have there? And what are your sort of expectations there in the more short-term? That's my first question.

[Jonas Arkestad, executive]

We hear from our partners, our customers, the big installation companies that they are quite fully booked with these types of jobs. So what that will look like half a year from now, I don't know. But at the moment, the activity level seems to be very high, and that's in many countries a shortage of installation capacity for all the type of work that needs to happen. And I think there are some signs also that the component shortage is easing up a bit. So I think that that part of the business will be increasingly busy going forward. Then whether or not the installation capacity will be a bottleneck to really get full traction or not, I don't have to say. But I am quite bullish about the activity levels on the energy renovation side going forward.

[Douglas Lindahl, analyst]

And in terms of, I guess, we're as always entering unchartered territory. But going back historically, what is your experience from the performance of the renovation and exposure relative to new construction exposure thinking about both in terms of growth, but also on the margin side, are you able to give some sort of comparison between the 2? I would guess the renovation part is much more stable, but just your wording on that?

[Jonas Arkestad, executive]

Well, I have in some ways been a long time at Lindab, 4 years now, and in other respects, maybe not long enough to experience how this fluctuates over a complete business cycle. We -- our sales is to quite a large extent decided by the activities of our main customers, the ventilation installers, the tinsmiths and builders. They have their personnel resources that they allocate to the projects that are the hottest, and when new construction is weaker, they tend to find more projects or allocate more people to the renovation side. The type of products that Lindab that we are selling, they are very similar whether we sell them to new construction or to renovation. The same components are needed. So we don't have perfect traceability of that. We listen to our customers to see how their activity level is developing.

[Douglas Lindahl, analyst]

And switching topic on the M&A side, they're very helpful with the comment on profitability. And also you mentioned that you have synergy expectations for Felderer. Are you able to give some sort of magnitude on -- by how much you think that could expand profitability for Felderer and maybe a timeframe on when you expect those impacts to come?

[Jonas Arkestad, executive]

No, I will not quantify that today. But Felderer, I mean, today they are performing around 5% EBIT margin. So that can be a data point. They are a ventilation distributor and the distributor margins in Germany are normally not double digits. But we aim to support Felderer in increasing their EBIT margin through different activities. And then we aim to capture certain synergies from internal purchasing and in-sourcing of production as well. So all in all, if we combine the different effects, we aim for Felderer to have a total integrated profitability on the same level as the group within, let's say, 3 years. But it does take some time to lift it from the level where it is now. That said, I am very happy with how the Felderer company is performing, good sales development, extremely motivated organization, good plans. So it is -- there is no criticism. I mean, it's simply how the German distribution industry looks at the moment. But I'm quite confident that we can develop it further.

[Douglas Lindahl, analyst]

And just a final question, if I may, on the investment program. Where is your focus right now on the CapEx side?

[Jonas Arkestad, executive]

In the -- since 2019, we've had a primary focus to automate production processes. It's for efficiency reasons mainly. And then there are 2 other important priorities as well. One is, while automating our processes, we get the added benefit of higher production capacity so that we can grow organically without losing efficiency. And the third aspect is that we are working very much with increasing the work safety for our employees. Old machines without the necessary safety equipment and so on should be replaced by new equipment where it is nearly impossible to injure yourself or your fingers, et cetera. Now we have made -- we have come very far on the safety side. They have -- the safety investors are always thorough test. We have pretty much eliminated the machine-related accidents in the company in a short time, which I'm very proud of. So there's not so much more to be done there. When it comes to capacity investments, we have removed bottlenecks and we are prepared for organic growth, strong organic growth when that period comes and when the European economy allows them. And what remains is still some investments in the area of efficiency. We still have some decisions made waiting to be implemented. And we see that as we invest and improve certain parts of the production, other weak spots are identified where we can make very good investments. So I think it's on the automation side where we'll see the most investments going forward. On a lower level than we have seen in the past 2 years are still on a higher level than, say, Lindab traditionally has been on. And perhaps one extra comment is that the acquisitions, there are, of course, also interesting investment opportunities and low hanging fruits in those companies. They might not have been able to afford certain investments or they didn't have the expertise to make the right investments to identify the right technical solutions. And with our very skilled automation teams and machine builders, we are able to find the right solutions for those companies and find very good efficiencies in those companies.

[Operator]

[Operator Instructions] Your next question is from Anna Widstrom from Handelsbanken.

[Anna Lindholm-Widström, analyst]

And I have 2 questions. And maybe just beginning on -- because I'm trying to figure out like the -- as we now see the prices that are decreasing and stabilizing at lower levels, at the same time, we're seeing costs such as electricity and transportation increasing. Could margins for Lindab become a bit more volatile? Or how should we sort of think about the structure of your contracts on these costs?

[Jonas Arkestad, executive]

Let me see if I understand the question. I think for any industrial company pricing and margins will be more volatile if all raw materials and services and utilities we have to buy, if that price volatility is very extreme as it has been in Europe for the past 2 years. So what all of us want, including consumers and in your household when you buy electricity, you want stability. You want on to be able to plan. We want to be able to pretty much print the product catalog and send it out with prices and it doesn't change. But that doesn't work now. Inflation and wild fluctuations of a lot of your costs makes this extremely difficult. So you have to be agile. That's the new word, yes. You have to be very agile, constantly update. I'm hoping for stability, but we are preparing for several scenarios. I think the energy prices are especially difficult right now. How will the impact be when the winter comes in Continental Europe? The costs for people and companies they are difficult to estimate at the moment. When it comes to steel prices, I mean, steel prices have come down but they are still 30%, 40% higher than they were 3 years ago. So there has been -- they are on a high level. Will they be able to come down further? They have gone down like 50% from the peak. I don't think that they will come down much further because the energy prices are keeping the steel prices up. But we have to -- we update our product calculations and all our assumptions every month. It used to be okay to do it every quarter, every half year, but now it's every month. And we are careful not to make promises about very long price agreements. We need to be able to change fast. That's the best answer I can give.

[Anna Lindholm-Widström, analyst]

And maybe if we can -- if you could maybe give us some comments on the different geographies outlook from here. In the report, you mentioned the -- in Europe, for example, having quite cyclical impact currently.

[Jonas Arkestad, executive]

Yes, I can try. Well, we say in the report that we have seen the most clear signs of a slowdown we have seen in Eastern Europe. We saw it actually in general in July, but then it recovered for the group in August, September. But specifically in Eastern Europe, we've seen volume decline in the quarter. Our Profile Systems is rather heavy in several of our Eastern European countries. And normally, we know from the past that Profile Systems is more sensitive to the business cycle than Ventilation Systems. And Eastern Europe is more sensitive to ups and downs in the business cycle versus Western or Northern Europe. So I think this is what we're seeing. They are closer to the war. They are more exposed to very high gas prices, natural gas prices and the interest rates have been seriously increased in those countries. So it would be natural to think that certain projects and investments are delayed. And that is what we see. It's not the bread and butter sales, so to say, that has slowed down very much, but it is the project sales where we see a hesitation in the market, a delay and wait-and-see approach. Let's see how that is spreading through Europe, but the earliest signs we have seen are in Eastern Europe.

[Operator]

There are no further questions at this time. I'll now hand the conference back to Ola Ringdahl for any closing remarks.

[Ola Ringdahl, executive]

From myself and Jonas, I would like to thank you all for listening in, and I wish you a good day. Thank you.

[Operator]

Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.