Kendrion N.V.

Good morning, everybody. Welcome to Kendrion's Q3 2024 results teleconference. My name is Joep van Beurden, Kendrion's CEO, and with me on the call is Jeroen Hemmen, our CFO. I will start the meeting with some remarks regarding our Q3 results, after which we'll have time for Q&A. We will post a recording of this call and of the Q&A on Kendrion's website as soon as is practicable. I would like to draw your attention to the fact that certain statements contained in my remarks and in the answers to your questions constitute forward-looking statements. These forward-looking statements rely on several assumptions concerning future events and are subject to uncertainties and other factors, many of which are outside the company's control that could cause actual results to differ materially from such statements. Before reviewing our Q3 2024 results, I would like to reflect on the transaction with Soliro that we announced on April 12th and that became effective on September the 30th, the last day of the third quarter. The sale of our automotive franchise to Soliro is the result of an important strategic decision to put our focus exclusively on opportunities within our industrial brakes and industrial actuators and controls business groups in Europe, China, and the United States. As we all know, the automotive industry is in a major transition. To make full use of the opportunity that this transition presents requires substantial investments in R&D and in production equipment. The level of investment needed makes it more difficult for an automotive Tier 1-2 of Cambrian scale to make a play in all the opportunities on offer limiting the growth potential that's available in the US and Europe. Over the past years, we have found ourselves increasingly in a position that we have to choose. Do we invest in automotive, or do we instead allocate the funds and the resources to industrial? By staying active in both automotive and industrial, we run the risk of being subscale in both. So we've therefore made the strategic decision to transform Kendrion into a pure industrial company. We are now in a position to invest in the significant opportunities in the industrial sector, fueling sustained profitable growth. So these Q3 results are the final quarterly results where we report on Kendrion being active in both industrial and automotive. As we did in Q1 and Q2, We report the results in terms of continuing operations, so IB, IAC, and the part of our automotive franchise that we retained, and the discontinued operation, which means the automotive factories that we have sold to Soliro. We are taking a range of measures to right-size our organization, and we expect to have implemented all these changes by the end of Q4. And this means that by the end of the year, we will have reduced our costs by 9 million euro compared to the full year 2023 cost base. This includes 7 million euro from the discontinuation of automotive sound R&D and an additional 2 million euro in operating costs from the retained automotive business. The right sizing leads to the reduction of about 70 FTEs. We will also transition from our bespoke automotive IT, ERP, and other IT systems to off-the-shelf solutions with significantly lower implementation and running costs. This, however, will take a bit longer, especially transitioning our ERP system. All this means that we will start the year 2025 as a pure-play industrial company with a cost base appropriate for the size of Kendrion. Let's talk about Q3. Despite the persistent slow economic conditions, our continuing operations, industrial brakes, industrial actuators and controls, and our retained automotive business in Europe and China saw slight improvements in both revenue and profitability in Q3 2024 compared to Q3 2023. Q3 revenue from continuing operations was 72.7 million euro, a little higher than the 72.1 million euro of Q3 2023. The added value margin, a key metric going forward, declined by 90 basis points due to a changed sales mix. And normalized EBITDA from continuing operations was 8.9 million euro compared to 9.1 million euro a year ago. Normalized EBITDA declined to €4.8 million compared to €5.7 million a year ago as depreciation charges rose to €4.1 million from €3.4 million in Q3 2023. Net profit from continuing operations was higher, €1.9 million in Q3 compared to €1.6 million in Q3 2023. The discontinued operations posted a net loss of €9.0 million in Q3, of which €7.4 million was related to the automotive transaction. Let's talk in a bit more detail about the business groups. The industrial brakes group grew with 7% year-over-year from a low comparable. Revenue was €30.3 million in Q3 2024, up from 28%, This growth was mostly realized in China, while revenue in Europe and the US was stable. Industrial actuators and controls revenue decreased by 6% and came in at 29.3 million euro compared to 31.5 million in Q3 2023. Strong performance in the food and beverage and infrastructure segments only partially offset the downturn in the general machine building market. In our retained automotive business revenue increased by 4% on a like for like basis to 12.9 million Euro compared to 11.4 million a year ago. And this growth was driven by the ramping up of new automotive projects in China. On the back of the Solero transaction, our balance sheet has strengthened considerably. Total net debt decreased to 101.1 million euro down from 160.2 million euro at the end of Q3 2023. We expect to receive an additional 11.5 million euro following the finalization of the Romanian subsidiaries legal transfer and the final settlement of the working capital adjustment. The leverage ratio at the end of Q3 was 2.5 compared to 2.9 at the end of Q3 2023, well below the financial covenant of 3.25. As of 30 September 2024, Kendrion had 75.8 million euro available in cash and unused credit lines, which also reflects an agreed reduction in offer credit facilities with 27.5 million euro following the sale of automotive. The total number of FTEs at the end of Q3 2024 was 1,832, down from 2,527 in the previous quarter, and 2,624 at the end of Q3 2023. The decline in FTE is of course due to the completion of the automotive business sale, while FTEs in the industrial business remain stable. Following the legal closing of the Romanian subsidiary, the discontinuation of automotive sound R&D and organizational rightsizing, the number of FTEs is expected to decrease by an additional 244. This means that we expect to start the year 2025 with 1,588 full-time equivalent employees consisting of 866 direct and 722 indirect employees. Before we go to Q&A, let's talk about the outlook. We expect the economic environment for the first half of 2025 to be similar to the current conditions. Stability in the US economy and persisting weak trading in Europe, and particularly in Germany, combined with subdued economic activity in China relative to historical levels. The lowered interest rates in Europe and the US are good news, and could positively influence the economic environment over the medium and longer term. Our strategic repositioning enables us to make full use of economic rebound when it occurs. As mentioned, in the remainder of the year, we will implement the planned cost-saving measures and work to improve our added value margin. With the strategic shift to our industrial operations, we believe we can achieve the financial targets as announced on our Capital Markets Day of September 6, 2024. An EBITDA of 15 to 18% from 2025, a return on invested capital of 23 to 27% by 2027, and annual dividend payments of at least 50% of normalized net profit starting next year. Over the longer term, we expect we can harness substantial organic growth opportunities driven by the global shift towards cleaner energy and other emerging market opportunities. We are now ready for your questions.

Thank you. As a reminder, to ask a question, you'll need to press star 1 and 1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1 and 1 again. Please stand by while we compile the Q&A queue. We will now go to our first question. Our first question comes from the line of Frank Clarson from DeGroof. Peter Cam, please go ahead. Your line is open.

Yes, good morning, gentlemen. Two questions, please. First of all, good morning, Joep. First of all, on your 9 million targeted operational expense savings, how much was already reflected in Q3 and how much do you still need to kick in in the coming quarters? And also related to that, do you still envisage to have restructuring charges to get to these 9 million savings? That is my first question. And then the second question on the gross margin, 90 bps down in Q3 sales mix, you said. What exactly drove that 90 bps down and do you see it as a sort of one-off or could it improve to, let's say, more normal historical levels again? Thank you.

Thank you, Frank. Jeroen, you want to start with the first one? Yeah, so on the cost savings, In the continued operations, because the savings in the nine million is seven million in sound, that is largely moved to discontinued operations. So in the continued operations, those costs are not in. And so you could say it's reflected, but of course total, including automotive, the costs are still there. and will be taken out as from the 1st of October. So that means that an additional 2 million on balance for the continued operations will be added due to the right sizing. In principle, no more restructuring charges are expected. So everything is included in the Q3 numbers. Of course, that's the expectation, so it could be that during implementation it's a bit higher or a bit lower, but we expect this is it. On the gross margin, on the added value margin, this is basically a reflection, as you have seen, IAC decreased a bit, China increased a bit, and we also increased our inventory of finished goods. where you have obviously a lower margin than on actual sales. That basically led to the 90 basis points lower added value margin.

But Frank, just to add to that, so this is pure sales mix. So you say, look, the added value margin is what it is in IAC, in IB, and then in China. You can also say the retained automotive, which added value margin is, of course, structurally lower than in the digital franchise. So if you get more retained automotive, that's the effect we're talking about. The added value margin goal that we have is to increase this for all relevant segments. So you will always get a mix effect, but we will try to disclose and explain in calls like this and also in our communication how the underlying gross added value margin, as we call it, per segment is developing. Because we think we have good opportunities to increase that. And so that's a different argument from just a better sales mix. And that is not yet there. This is still sort of the way it has been. But we are working on, we have all sorts of activities and measures to start improving that structurally, starting in Q4 and then obviously in the course of 2025 as well.

Okay. That's helpful. To squeeze in one more question on the cost savings and let's say the charges for this, the cash outs related to these restructurings, have they already been taking place or can we still expect these to kick in?

Yeah, so the cash out is also related to the transaction cost. So some has been incurred already, but majority not. So in big numbers, you could account with around 6 million this year, both transaction cost and also severance pay, and around 4 million next year. Okay, that's very helpful. Thank you.

Thank you. We'll now move on to our next question. Our next question comes from the line of Martin Dendrijva from ABN AMRO-ODDO-BHF. Please go ahead. Your line is open.

Yes, thank you, operator. Good morning, gentlemen. Good morning. My first question is with regards to the total proceeds, because I'm a little bit puzzled now. You have received eight in amounts and you're still receiving 11 and a half. So what are now actually the total proceeds, including the working capital adjustments?

Yeah, so we announced as we announced on October the first in the press release when we announced that the sale was effective. is that there were six factories that have been moved, that have been sold to Solero. One, which is the Romanian subsidiary, we had not yet the regulatory approval to legally transfer that. It's a long story why that took so long, but it was basically out of control. So five of these subsidiaries have been legally and commercially transferred. And the one in Romania we said commercially is for the benefit of Sodero, but legally is still part of Candrion. And that means that at the time we received the bulk of the sales price consideration was 65 million. So Jeroen, how much was, exactly how much was received

In total, a bit over 50 was received, net of cash. We expect still to receive in total 11.5, as you can read in the press release, and the rest is working capital adjustment. In addition, we also lose, but that's already in the numbers, 3.6 million lease, so that will also reduce the net debt.

Okay, but so the total proceeds will still equal roughly the 65 million.

Yeah, for sure.

There's no change in that. And also, I mean, for all practical purposes, this sale has been made effective on October the 1st, 2024.

Got it. And then my second question is on the ramp up in retained automotive sales. I have to admit the growth there was slightly lower than what I had anticipated. Can you elaborate a little bit on the pace of scaling up on the start of certain new projects, just to give us a bit of a sense of that's growing as expected or not, and if not, why?

Yeah, so the growth for the overall retained automotive was, I think, 4%. Now, there are two large chunks. One is that we kept the automotive electronics production in Romania. That is declining because that is sunset business that we're running for as long as we can, for as profitable as we can make it. And then there is China. So the declining part combined with the China ramp resulted in a net 4% uptick. So we don't wanna go and break down exactly how, but you can imagine that means that the China growth was a lot bigger than that 4%, which was more or less in line with what we expected. Of course, you're always subject to how the Chinese market in itself is behaving. This is all going into, flowing into Chinese cars. So I think it is within the range of our expectations.

Well, if I may, when we went into the details about the transaction and indeed the business that you still retain in Hungary, that sunset was not the next quarter. I think you mentioned you were signaling it was rough. The table might actually grow a bit. and then eventually it will be a sunset type of event. But it's just now tough market circumstances that explain that.

Not to put too fine a point on this, but there is still some ramping business there too. That is not now. That will be next year. So there is, you know, and so it could well be that you can see in Q1 and Q2 that you will see a retained automotive actually growing a little bit more. China, the ramp has started, as you know, and that is, as I said, within the range of our expectation. We expect that to continue next year. And then on retained automotive, so the existing businesses are typically slowly ramping down. Of course, the automotive, there's also just the whole trading environment in automotive in Europe hasn't been great, so we see that. And then there is some new projects starting, but that will be next year.

Got it, got it. And then on the cost savings, again, I'm slightly puzzled. When you first announced you said 8 million, that was 7 million in sound, 1 million in central. Then at the Capital Markets Day, you said we found another 1 million, so in total 9, which is something that you repeat. But now it's 7 million sound, so unchanged, 2 million in retained automotive, that's one up, and there's the 4.5 million in central. Can you please refresh my memory? Because it seems like it's significantly higher than what you previously said.

Yeah, but also in the press release, at least I hope, we also state that so the 9 million, well, first the 8 million that we introduced when we announced the sale was also to reflect that although we divested 19 million in EBITDA, we expected the EBITDA only between brackets to decrease by 11 million because we would also take 8 million cost on balance out. However, that net amount, which later increased to 9 million, and that is still the case, exists of a much higher amount of cost you have to take out because there are also dis-synergies. For example, automotive paid a significant amount of euros for the central IT organization. So part of the right-sizing, especially of the central organization, yeah, you will lose again because of these So in total, we take out 13.5 million cost, but we also get 4.5 million less contribution. That's how we have calculated it.

Got it. Moving on to my final question. You mentioned in the press release working hard on working capital in CapEx and to basically retain cash. Are your expectations for working capital and capex any different than what you guided for 50 half year results? So I think, I mean, top of my head, working capital to improve slightly versus year ends and capex in line with depreciation. Is there any change to that guidance?

No. No, I think that that's still a fair guidance. So working capital will decrease a bit in Q4 as it always does. It will be less pronounced as when we still had automotive, because that was especially the December effect was quite significant in automotive, but it will decrease due to the lower activity level in December typically.

Okay. Thank you. Those were my questions.

Thank you. As a reminder, to ask a question, you will need to press star one and one on your telephone and wait for your name to be announced. To withdraw your question, please press star 1 and 1 again. We'll now move on to our next question. Our next question comes from the line of Tim Ehlers from Kepler-Chivre. Please go ahead. Your line is open.

Thank you, operator. Good morning. I have one question with regard to Germany. I was positively surprised that in IB you mentioned that you've seen some stabilization there. Could you maybe elaborate a little bit on the market conditions you currently see?

Yeah, definitely. So, if you recall, probably the whole significant slowdown, but specifically in IB, started last year in Q3. We then had, you know, it was really significant, around 30% of year-over-year revenue decline. Now, there was a combination of lower activity level, but also there was a lot of destocking going on, and that's because the years before we had been, you know, struggling to keep up with demand, and it meant that most of our customers had a significant amount of inventory. Then all of a sudden, the machine building segments broadly slowed down, and so they had to eat up all that inventory. That took a while. Our take on this is that the overall activity level is still at the same, roughly at the same, but that the whole destocking trend is now true and well behind us, which means that we saw an 8% increase in sales compared to that very low Q3 2023. So our read is destocking is over. The activity level is not worse than it was last year, maybe a touch better, but not by much. but we're still in this reasonably slow environment when it comes to investment in capital goods, the machine building industry generically, et cetera. We see that in IB and to some extent in the relevant segments of IAC, we see that as well. That's always a little bit less pronounced there because we have other segments that are doing quite well. We also talk about that such as infrastructure, food and beverage, Medical is usually quite stable. But when it comes to machine building, it's still quite slow. But luckily, no more destocking.

Okay, great. But from a geographical perspective, Germany is still the weakest market.

Yeah, we don't have that visibility, to be honest. But we have a lot of exposure to Germany, as you know. And Germany in itself, of course, they traditionally export a lot to China. So the fact that China is, compared to historical levels, growing reasonably slowly, that doesn't help. So, yeah, I mean, you look at all these indicators, the purchasing manager index in Germany has been low for a long time. And we see some of that.

Okay. Thanks a lot. I have one further question with regards to geography or geopolitics. Um, have you done an assessment of the Trump administration, um, and what impact that will have on your business? I mean, it should not be that material since you produced there or, um, what's your view on that?

We did look at that. Um, so, so, I mean, from, from, from a Candrion perspective, what is, what is most concerning is, is, uh, you know, if we get, you know, tariffs or even an oil trade war, um, The good news for Candrion is for many years we heard us talking about our strategy to move all our factories, all our plants to so-called local for local. And what it means is that within the three sort of continents where we're active, so China, Europe, and the United States, the companies that we run there are completely self-sufficient in the sense that they have a local supply chain, they have typically have local customers, they obviously have local employees. When we need production equipment, we also source that locally. And that's true for Europe, that's true for China, that's true for the US. So if you look at importing and exporting by Kendrion companies, it's really limited. It's almost, it's not entirely zero, but it's almost zero, which effectively means that the direct effect of tariffs on Kendrion are not there. Now, of course, if you get massive trade wars, that will affect overall economic activity, so nobody's a winner with that. But the direct effect on our assessment is that it is not going to be material.

Okay, clear. Then one last question, if I may. Talking a bit about the margins. So if I look at Q3 results and the 12.1% EBTA margin, and if you say that includes $7 million of the cost savings already, with two more coming in next year. Oh, sorry, by the end of this year or next year. But anyway, to move to the 15%, that would require, well, a push from order intake of projects that are at these levels already, right? It's not that you can sell inflicted move to the 15% with these cost savings.

And the cost savings alone will not, not, uh, so you can do the math with the 2 million on top in, in the, um, so, so, so, so for sure, as we also have, uh, our actions on, on the added value margin that what, uh, what, what, what you've explained. plus we need to take into account that Q3 is typically also due to simply less working days, also a week a quarter than Q1 and Q2 traditionally.

So from our perspective, so yes, of course we take cost action that's still in the works and we're always looking out to optimize our cost base and to make sure that we're efficient. that in itself is not going to help. We are, if you look at sort of, and that is the intrinsic profitability of Kendrion has improved because of the strategic move to focus on industrial. So that's good. You can see that in these results. We will have, we have quite a lot of activity going on on added value margin. That clearly will help as well and provide it. that we're not going to stay in sort of a low trading environment forever. I point to the interest rates reductions that are now being taken in Europe and the US as an indication that there will be a point that you will see this difficult trading environment correct itself, and then we are ready to make full use of that.

Do you already see signs of it in your order book?

Not really. So in our outlook, if you look at the first half, and of course this is also echoed, I think, by some of the economic analysts that we follow and read, it's probably going to be, if it happens, it's probably going to be more towards the second half of 2025. At the same time, I mean, you never know, right? Our visibility is limited, but the near-term order book points to not a deterioration, but also not to an improvement of the economic environment over the next couple of months. Okay, great.

Very helpful. Thanks a lot.

Thank you. We'll now move on to our next question. Please stand by. Our next question comes from the line of Martin Verbeek from the idea. Please go ahead. Your line is open.

Good morning, it's Maarten Beek of DID. Firstly, you mentioned the cross margin was under pressure due to mix. Is it fair to assume that IIC has the highest cross margin followed by industrial brakes and then the automotive businesses? Yes, Maarten, that's fair to assume. Then you also mentioned that going forward you want to raise your gross margin for the company as a whole.

do you have certain targets in mind to realize in in 2027 the gain or maybe the absolute amount yeah of course but that's internal you can imagine we're in the budget process at the moment for 2025 so absolutely and they're also you know we're talking about distinct actions on how to do it and where to do it you can imagine not not necessarily an easy operation, but we feel there's opportunity there and we intend to make use of that. But yes, per business, there are targets defined and actions in place to attempt to improve that added value margin. You will see that in the course of next year, hopefully in our numbers.

You discussed the situation of industrial breaks last year, third quarter, with a 30% drop due to the low demand and destocking. The quarter thereafter, Q4, provided a similar sales decline, even a bit worse. Was that still the combination of these two?

Yes, absolutely. Destocking, of course, is not digital. So it was in the second half of last year that, in hindsight, I mean, at the time, maybe you can't really see that, but in hindsight, when we look at the patterns, we think it was then the worst. It continued a little bit even in the first half of this year, but we conclude from that 8% rebound from a very low level that that is now over, and we are now more looking at the actual activity level which is then still say around 20 percent lower than what it was in the first half of 2023 since these situations are a bit similar is then also likely that industrial breaks will record a mid to high single digit growth in the q4 um like if you say yeah i mean what is growth right if you look at the comparables it could it could well be But to put a very fine point on that and see what part of this rebound is actually more activity, what part of it is the lack of destocking that we had last year, what part of it is ramping projects and new customers that are starting, that's always extremely difficult to say. especially in December in Q4. Indeed, you get also then the year-end games with inventory that some customers play. They want to go, you know, we see we do the same thing. You want to optimize your working capital at year-end, so you postpone some ordering. So Q4 can then be artificial low only to see a rebound in Q1. It's going to be very difficult, Martin, to see that on a quarter-by-quarter basis and then really tear that down in its components. But our statement is that the activity level is roughly similar to what we saw last year around this time, that the stocking is behind us. That helps a bit. But what we really need is that these interest rate cuts are going to help with more investment in capital goods and other projects. And that will drive underlying demand for machines, which will then help us to grow revenue. um you're hoping that the interest rate cut will stimulate economic growth but in case it won't that that marks remain challenging depressed do you have a plan b to adjust your costs well sure i mean if you look at the results today we are we are and have been in in a world where where the the so the economic activity level both industrial automotive has not been great right and of course we you know go with it really dropped. Then after COVID, we had a couple of years where it rebounded. But if you really step back, you can see that certainly in Europe for the past four or five years hasn't been great. So this is basically our modus operandi now. And if you look at the results today, despite the environment, stable revenue, stable profitability, we are keeping the ship upright in a world that is not necessarily all that great. So that is how things are, but at the same time, my statement is, our statement is, that we are ready for a rebound. We have great products. We have intrinsic profitability of Kendrion has improved significantly with the sale of automotive. Our balance sheet has strengthened, so 101 million net debt compared to 160 million a year ago. So if and when a rebound, even a slight rebound occurs, you will see an enormous improvement in the profitability of this company.

And lastly for Jeroen, could you give a bit more color about the free cash flow development, because when I look at the development of the net debt in the quarter, it seems that that has been positive.

The free cash flow, of course, has been positive due to the transaction. No, I'm excluding that one. No. Well, a little bit negative, fully caused by a combination of positive cash flow in industrial and a weaker cash flow in automotive. Yeah, and that's also a reflection of the results of automotive that you have seen.

Okay, thanks so much.

Thank you. There are no further questions at this time, so I'll hand the call back to Joep for closing remarks.

Well, thanks all for your attention and especially for your questions. If you have any follow-on, you know where to find us. Thank you very much.