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Dear ladies and gentlemen, welcome to the analyst conference of EDAG AG regarding the presentation of H1 2019 results. At our customer's request, this conference will be recorded. [Operator Instructions]May I now hand you over to Cosimo De Carlo, who will lead you through this conference. Please go ahead, sir.
Thank you. Good morning, ladies and gentlemen, and welcome to our H1 2019 earnings call. I'm here together with my colleague, Holger Merz, who will give you a detailed view on the figures later on. Before that, please let me give you an overview on the current market development. The world economy is still facing a high level of uncertainty especially due to the trade war between U.S.A. and China. As a consequence, the IMF has lowered its forecast for 2019 to a growth rate of 3.2%. The growth is expected to pick up in 2020 with an expected rate of 3.5%.In this environment, our customers are facing numerous challenges. On the one hand side, there is an extreme high need for research and development especially in the areas of evolution of existing engine technology and product portfolio, new engine solutions, ADAS and connectivity, mobility solutions. OEMs and their suppliers are forced to heavily invest into all these fields.On the other hand side, the economic cool down leads to a decline in global car sales. Recent forecasts show a decline of 4%, 5% in 2019. As a consequence, cash flows to OEMs and suppliers are also limited. In this situation of conflict, our customers are reacting with reprioritization of investments, review of the product portfolio and increased savings programs. In the ESP market, this leads to delays in the awarding of contracts, postponements of projects and sometimes even project stops.At this stage, we are experiencing the heaviest impact in our Production Solutions segment. Our customers are currently putting their investments focus on new models, advanced driving assistance systems and mobility solutions and not on production facilities. All in all, the high level of volatility and partially underutilization of ESP capacities characterize the current market situation. Short term, this results in headwinds in the ESP market. Especially, the situation in our Production Solutions segment has not improved since our last earning call from May 8. Although we have implemented immediate actions to reduce costs and to improve sales, the segment is still facing underutilization. As a result, the sales and earnings development in this segment is still negative as already shown with our Q1 figures. Against this background, we had to announce a change in our forecast for the full year 2019 on July 2019. Moreover, we took the decision to accelerate our restructuring measures and to increase the funds for restructuring to up to EUR 8 million. The cost will be one-off items and fully adjusted in the EBIT of 2019. The measures will especially include costs for even stronger capacity reduction in the area of mechanical engineering, early retirement programs, education and training of existing staff in the areas of mechatronics engineering. Additionally, we will implement specific sales initiatives in other industrial sectors outside the automotive industry where the added value of Production Solutions can be easily transferred. Within these measures, we will restructure the Production Solutions segment in order to achieve profitable growth in midterm. Looking ahead, we clearly see the need of our customers for external expertise and support. It's not only the disruptive change in technologies and their shortage of capabilities that support this scenario, it also needs -- it's also the need for speed leading to shorter product life cycles where our customers need our support. This development will lead to an increase in outsourcing ratio. Additionally, the trend towards electro-mobility like battery electric vehicles and fuel cells leads to a continuous emerge of new customers. Our current talks and negotiations about numerous highly interesting projects give us a high level of confidence for the further development. We are expecting growth opportunities for all our segments. Vehicle Engineering and Electrics/Electronics should benefit from the unbroken trend towards new model and drivetrain variance, ADAS and mobility solutions. Production Solutions should benefit from the need of our customers to make their production facilities more flexible.Some of these opportunities are reflected in our company's H1 development as 85% of our current business means Vehicle Engineering and Electrics/Electronics is healthy and still on the growth path. So overall and despite all current challenges, we are deeply convinced that our market offers further opportunities for profitable growth.Ladies and gentlemen, may I now hand over to Holger Merz, who will give you the detailed figures for the first half of 2019.
Thank you, Cosimo, and good morning also from my side.[Technical Difficulty]
At the moment, we cannot hear you.
Hello again. Our adjusted EBIT margin for the group is at 4.3%. In the first half of 2019, order intake was up by 6.7% to EUR 462.9 million. This is a clear signal for our positive view on the overall market despite of all current challenges. As Cosimo has already said, we take the opportunity to accelerate our restructuring effort and are now calculating this cost of up to EUR 8 million for the full year. In H1, we have already booked about EUR 3.2 million. The costs will be one-off items and fully adjusted in the EBIT.Looking at the revenues by segment. We are posting a solid growth of 3.1% in Vehicle Engineering. Electrics/Electronics is particularly positive with the growth rate of 14.2% in H1. Overall, the continued growth in 85% of our business helped to almost fully compensate the sales decline of 26.3% at Production Solutions. Our revenues outside Germany were at 29.7% in H1 2019. This is a little less than in previous year but still considerably above the level of former years. Main reason for the shift in H1 2019 is a big PS project in Mexico in 2018. The next page shows the development of the adjusted EBIT. I would like to highlight the very pleasing development in Electrics/Electronics where we were able to nearly double the margin. Vehicle Engineering showed a decent margin as well. Production Solutions is unfortunately posting a negative adjusted EBIT. Overall, the adjusted EBIT margin for the group was at 4.3%.Looking at our costs. We have managed to bring our ratio for personnel expenses even a bit below previous year's level. Also, costs for external services are down by 1.6 percentage points to 8.1%. In contrary, material expenses are up to 7.7% due to a small-series production project.At the next slide, we see the earnings after tax at EUR 4.5 million. The loss at Production Solutions and the restructuring costs weighed on our earnings. Overall, total equity level is at EUR 126.4 million on June 30, which corresponds to an equity ratio of 20.3%. Our equity ratio is highly impacted by the new IFRS 16 accounting rules because our lease liabilities amount to about EUR 156 million.Our headcount at June 13 (sic) [ June 30 ] was at 8,653, which is 260 people more than in previous year. Quarter-on-quarter, headcounts reduced by 28. I would like to highlight that the growth in headcount was mainly outside Germany. We have expanded our German headcount only in the Electric/Electronics segment, whilst we have already slightly reduced staff in Vehicle Engineering and Production Solutions in Germany since the beginning of the year. Due to the accelerated restructuring, we expect further reductions in Germany until the end of the year.The CapEx in the first half was up to EUR 12.2 million, resulting in a CapEx ratio of 3.1%. We are sustainably investing into our company's future while maintaining our asset-light approach. Overall, CapEx for the full year is expected to stay below 4% of revenues.Looking at the trade working capital. We see an increase of about EUR 19 million over last year's figures. This development is impacted by several factors. First, we had changes in the payment system at one of our biggest clients, which caused delays in payment. Second, our project with a small-series production of fuel cell cars leads to higher inventories. And third, during the first quarter, work in process is build up since the milestone or quality gate for the settlement are usually due in the fourth quarter. Overall, we are expecting trade working capital to normalize by the end of the year.Looking at the cash flows. Our H1 is of course highly impacted by the weak development of the Production Solutions segment. Moreover, and as explained before, we had changes in the payment system at one of our biggest clients, which caused delays in payment. As Q2 and Q3 are usually the quarters where we have weaker cash flows and an increase of working capital, we expect cash flow to normalize and turn positive in Q4.Our net financial debt that June 13 was at EUR 293.4 million. The leverage was at 3.5x adjusted EBITDA. The high leverage is mainly based on 2 factors: the development at Production Solutions impact our EBITDA in a negative way; and secondly, due to IFRS 16 leasing liabilities of about EUR 156 million are included in the net debt, but this has no impact on our operating performance. With our accelerated restructuring, we are convinced to improve our adjusted EBITDA significantly, so the leverage should improve accordingly. Concluding, let us come to our outlook for 2019. As Cosimo has carried out in the beginning, we do have a challenging automotive market situation short term. Mid- and long term, we clearly see growth opportunities for all our 3 segments. Against the background of H1 result of Production Solutions, however, we had to revise our 2019 outlook on July 29. We are now expecting our revenues to reach the previous year's levels plus/minus round 1%. We expect our adjusted EBIT margin to level in the range of around 4% to 5%. Earnings after tax for the full year are expected to below EUR 10 million.At Production Solutions, we are expecting a negative adjusted EBIT in a single digit percentage range. We have not changed the forecast for the segment Electrics/Electronics and Vehicle Engineering. So for the full year, we are expecting growth and an adjusted EBIT margin in the range of 5% to 7% in those segments.Ladies and gentlemen, once again, thank you for joining our call. Cosimo and I will now be happy to answer your questions.
[Operator Instructions] The first question is from Marc Tonn of Warburg Research.
A couple of questions. I would like to take them one by one if that's okay for you. So first question would be, you still enjoy this pretty stable or pretty good development at Vehicle Engineering and Electrics/Electronics. My question there would be how does the visibility look like and how confident can you be regarding the development of the second half? Are you already seeing postponements of projects in these segments as well? Or is this a rather stable development which we currently see there?
Okay. So I will respond -- I'll answer to your question, of course. So we are quite confident about the further development of Vehicle Engineering and Electrics/Electronics. We have recently signed also very interesting new projects that we were not allowed to talk about, but these make us quite confident about the development of 2 segments. Especially in the Electrics/Electronics, as you have seen, the -- as Holger said before, the double-digit growth is going ahead. We are quite confident that these 2 segments will be fully on track this year and also in the upcoming months. This is also the reason why, as Holger just said before, we are not changing the guidance for these 2 segments.
Perfect. Related to that, we have seen some, let's call it, volatility in terms of the margin at Electrics/Electronics. I think in the first quarter you had a margin of 9.3%, if I'm not mistaken, and then with 3.9% in the second quarter. Has there been anything specific behind that? Or is this just, let's say, normal course of business that seems that we're at -- are happening?
Yes. Okay. In the first quarter 2019, we had a positive onetime effect in the E/E segment. In the second quarter, there were also 4 working days less than in first quarter. But compared to the second quarter 2018, we had even an increase in our margin.
Yes. So -- but there's just a, let's say, a normal -- there's a bit of a special item in Q1 and then the normal working day effect quarter-over-quarter which is what [indiscernible]?
To answer your question, our visibility is -- if you take a look at our orders on-hand, you see that we have the visibility of about, yes, 6 months. But the danger is always that the customers shift orders 1 or 2 months and then we have some utilization challenges.
In any case, as of today, we are confident that we'll continue the growth in those most segments. And also in Electrics/Electronics, we are, let's say, full on track and quite confident about the further development of this important segment for us.
Okay. Also related to that, when we look at the development of revenues on a customer-by-customer basis, it seems to be that -- particularly in, let's say, the broader range of other, if I'm not mistaken, you'll see these declines in revenues. Is this mainly due to this Mexican project at Production Solutions? Or is it a regional effect we're also seeing there that perhaps business with customers in, let's say, Far East is a bit more difficult these days given the particularly weak status of the Chinese market?
Of course. So we have the -- let's say, the Mexican effect of the project of last year included. The Asian market is, of course, the same decline of cars sold in the first 2 quarters in China is significant. And of course, we also feel that in the numbers of requests or, let's say, in the number of new customers. What I can say to you, it's very important for us, we started differentiation strategy especially in the Electrics/Electronics segment so that we can increase our market share at all customers. It was not in the case in the past. So also, in this context, let's say, at European level, we are confident that we can increase our margin share in Electrics/Electronics.Concerning the Asian market and the new customer start-ups, of course, there were some slowdown in the first 2 quarters due to the fact that the China situation is, let's say, little bit different like -- compared to 12 months ago. Nevertheless, as I said before, we are having very, very interesting meetings at the moment. I'm confident that also from that side of the world that we will have interesting projects, let's say, to fulfill, to achieve in the upcoming months.
Perfect. Next question would be that yesterday, I think there was an article in Frankfurter Allgemeine Zeitung regarding Adecco, which I think is, as you know, is a staffing company. And they were claiming that they are also, let's say, kind of entering your part of the business, developing a whole vehicle which is supposed to drive autonomously. I assume there's a bit of marketing in the statements by those guys. But have you, let's say, recognized staffing companies, let's say, increasingly as competitors in recent quarters? Or are you expecting them to enter your business?
To be honest, of course, our market is very interesting for new entrants. So to be honest with you, in the kind -- in the technologies where we are working today in complete vehicle development for battery electrical vehicles or in complex other systems, as of today, I see no change in the competition landscape. We are, let's say, one of the -- I would not say the best, but of course we are in the ranks of the most requested customers because in terms of technology, in terms of competence, I think 50 years of EDAG is something that we push on the market that our customers also recognize. And this is, let's say, the reason why I don't feel any further, let's say, strength of our competition. We are going of course ahead, but of course, we always look at our competitors because competition is always useful also for us to always be better.
And even our German competitor is not able to do a total vehicle development project.
Perfect. And last question from my side would be on free cash flow. You mentioned it will -- let's say, after a further -- an additional week at Q3, it will turn positive in Q4. Will this also, let's say, be your ambition for the full year to have, let's say, balanced free cash flow? Or should we expect it to be negative this year? Particularly as last year, I think, we had this particularly strong fourth quarter, which may presumably not reoccur this year.
Yes. As I mentioned before, in the first quarter, we build up working capital because milestones and quality gates are due in the fourth quarter. And so we think in the fourth quarter, our cash situation will getting better. Like in the last years.
Perfect. So free cash flow in the full year should be positive?
Positive, yes.
The next question is from Christoph Laskawi of Deutsche Bank.
Sticking with free cash flow. As the first one, we hear from other competitors basically that the OEMs are becoming stricter and stricter on the payment terms or trying to stretch them for them quite a bit. Do you see the same? And essentially, we've seen a worsening of that effect over the last several weeks. So you clearly target working capital improvement in Q4, but do you think that you can actually follow the usual seasonality in the current environment? Or is there a risk of a negative free cash flow?
At the moment, we see no risk for negative free cash flow at the end of the year. But you're right, some OEMs are a little bit reluctant to pay. But we had -- as I mentioned, although one of our biggest customer or our biggest customer have change in payment system, accounting system, and so it caused some delays. But I don't worry about it.
The money is now there.
And the money also is now there.
And more midterm 2 questions. The first would be we see that OEMs are reluctant to take on the wage inflation that you guys are seeing, so essentially the revenues for employee are staying stable to slightly decreasing, while your personnel costs should trend up because of the wage inflation. I know you are moving jobs to best-cost countries, but there's a limit to it in the sense that OEMs will assert to a certain share. Do you think this is just a reflection of the current environment? And midterm, OEMs will be rather willing to take on the wage inflation and pass on -- or will allow you to pass this onto them? Obviously, this doesn't improve their purchasing. Or with now the focus of the purchasing department at the OEMs on -- also the engineering services, you will see a continuous pressure on that side?
So of course, we always have pressure on cost. I think that's a part of our business and it's our main task to reduce our cost of delivery, and this is the reason why we increase our shares. So we are increasing our number of staff especially in the best-cost countries. It's always a win-win situation. I think, of course, our customers are expecting us to increase efficiency and it's part of our job. At the end of the day, it's always a win-win situation. So we expect the customer, of course, to take advantage of this efficiency and us as well. So there is, let's say, no shift of margin from one to the others. Our intention, of course, is to both benefit of this.
And the other question would be, I think in the current environment, OEMs are -- in the face of the rapid technological shift, OEMs are using your services where they don't have expertise themselves and it's clearly needed. But more medium term, they might reconsider and in-source when they think it's actually a key technology or a KPI that they need to own. Do you see a risk of OEM in-sourcing business that is currently very profitable for you and you're basically left with the legacy stuff where pricing pressure is even more intense currently and, so to say, a structural mix will be negative for margins in the coming years? Or don't you see that as a risk at all?
I don't see this kind of risk, given of course the OEMs are, let's say, always announcing that they will hire a specialist in the new sectors, and of course, let's say, lay off people in older technologies. I think if we look at the development of last years, we have to consider always 2 aspects. The first aspect is, of course, the investment in new technologies where, as you said, the customers need to speed up, and for this reason they need us. On the other side, there is also the legacy business, which is the standard business where the customers are also under pressure because they need to reduce their cost for the legacy business. And then also, in this context, we are able to increase efficiency and this is the reason why the customers are also asking us not only for new technologies but also for top technologies because innovation is also not only new technologies but also doing the legacy technologies at lower cost.I think in both directions, we are on track and fully aware of the market development. And I think that the technology change disruption we are having now will continue in the future because we will have a different level of automation, different level of artificial intelligence. And the process is for me a continuous process even if some customers will decide tomorrow to in-source some people. One day later, they will have new technologies and they will need us, of course, to speed up.So I think it's a continuous process where the ability of one ESP is exactly to find the right balance with the customers for legacy business and innovation business. But let's say, part of our game is the business that we know quite well, and for this reason we have full confidence that we will continue in this way in the right way.
And you have also to consider that ESPs like EDAG are 25% to 30% cheaper than the own employees of the OEM, and we are also more flexible than the own employees of the OEM.
Yes. We can scale also new technologies. If the customer decides to in-source, they can only scale at customer side. We can scale the same resources even if we are to the level of the same cost, we could scale those people, resources to up to 10 or 20 OEMs. This is the reason why we are quite -- we are much more efficient than the customers in doing the same job.
Yes. Totally agree on that. The problem though is that a lot of engineering staff of the OEMs sits in Germany and they cannot really make reductions here. So in case of restructuring of the R&D budget where they have underutilization of own staff, they might need to reconsider in-sourcing certain tasks in case they have the capabilities obviously, and this is why I ask then this question.
It's correct. Of course, this scenario can be on the other side. I always take into account the factor velocity. So they could do that, of course, but there is a huge risk to lose market share, to lose speed in the development of new technologies. And this is also the reason why even in this situation, at the moment, when we are in contact with our customers, there is usually -- there is always a huge demand of services for us in new technologies even if, let's say, some people on the customers side perhaps are, let's say, underutilized. So that's the reason why I feel quite confident for the further development of our market.
And last question from my side will be given the current volatility that you see in the projects, are you considering to move into more stable business fields like testing, where you could get utilization guarantee for several years? Or do you stick to your very asset-light business model that you currently have?
Let's say like this, asset-light is for us very important because of the volatility of the market. So to make long-term investment and having no visibility about the market development the next 10 years could be for us very dangerous. This is the reason why we are doing testing as well, so it's not that EDAG is doing only the left side of the V-Modell, so we are only developing and then other people will testing. So we do also testing. But I think the focus and the added value of EDAG, especially in this technological disruption, is on the left side of the V-Modell, means in the concept in the development of new technology. And that's, let's say, our position in the market and since the market is disruptive or that is looking for new technologies, I'm quite confident that our business will stay stable more than the testing part because the testing part could be reduced. If the customer decides to reduce the number of derivatives on the same model, then also the testing facilities or the testing activities will be reduced. This is the reason why we prefer to focus on the concept, on the development. But even if we have, of course, a part of testing. But testing for us, we'll also here try to focus on innovative testing, means new technologies that allows our customers to reduce testing facilities or to do more visual validation instead of physical validation.
At the moment, there are no further questions. [Operator Instructions] The next question is from [ Anders Rian ] of [indiscernible].
Can you please quantify the effects that you mentioned in the context of the increased net working capital so the changed payment conditions in particular and the work in progress?
Yes. I think the effect is around about EUR 20 million in total.
And what is what? Because that looks like a very, very large number.
Yes. Half, half. Approximately EUR 12 million -- yes, that's EUR 12 million -- overdue is EUR 12 million -- overdues I would say in, yes, changing the accounting system. We have also one delayed payment regarding another customer, but this customer also paid and the rest is work in process.
Okay. But then we are talking about EUR 10 million work in progress. That does not sound like a small manufacturing, or does it?
We have 6,000 projects at the moment in the EDAG Group and you can invoice, it depends on the -- reaching the milestones and quality gate. And so, for us, it's clear that we build up our work in progress in first quarter of the year. And mainly in the fourth quarter, we can invoice because then we reach our milestones and quality gate of the project.
Is there a technological problem?
No, there's seasonality in our cash flows. It's -- yes, it's proven. We have it every year.
Yes. I think the fact like in the high-technological projects, we have, of course, milestone to be reached. And it's quite normal that the majority of milestones are more at the end of the year. This is the reason why you have this increase in our working capital situation always at the end of the year. That's the main seasonality effect. You could have, of course, in between some projects or some concept studies where you close the project, let's say, in between and in the case you have, of course, a better working capital situation. During the year, it was probably last year, we had some projects that we finished in the middle of the year, but the rest is for us -- absolutely agree with what Holger said, is absolutely part of our business.
And the second topic was already also mentioned that we have a series of projects and so we have also a certain buildup in inventories. They are not in work in process, but in inventories. You can also see it in our figures in the first half year.
There are no further questions. I hand back to the speakers.
Yes. Thank you again for joining our call. Should you have any further questions, please do not hesitate to contact us or our Investor Relations department at any time. Bye-bye, and have a good day.
Thank you also from my side for your patience, for your attention and, of course, keep in touch for the next months. Thank you.
Ladies and gentlemen, thank you for your attendance. This call has been concluded. You may disconnect now.