OC Oerlikon Corporation AG

Ladies and gentlemen, welcome to the Erlikon Q1 2022 results conference call and live webcast. I'm Alice, the course call operator. The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Stefan Gieck, head of investor relations. Please go ahead, sir.

Good morning, ladies and gentlemen, and welcome to Erlikon's Q1 results call. With me in the call, I have Roland Fischer, CEO and Philipp Müller, CFO of Erlikon. We start the call with a business update from Roland, then Philipp will highlight the key financials. We will then follow up with Q&A. With that, I would like to open our presentation and hand over to Roland. The floor is yours.

Thank you, Stefan. Good morning to everyone and welcome to our first quarter results presentation. Q1 was a strong operational quarter. Besides profitable financial growth, we demonstrated technology leadership and further drove sustainability progress for our customers and our employees. But let's go into some more details on Q1 with a short summary on page 3. VertiCoin achieved strong order intake and sales growth of 23%. This resulted in an order intake of 790 million Swiss francs and almost 700 million Swiss francs of sales. Growth was driven by strong performance in both of our divisions. In service solutions, we increased our sales in general industries, and we also saw trends in aviation continuing to improve. Impact from supply chain shortages were in line with our expectations. We expect sales growth throughout the year, with a strong second half of the year. This is supported by a book-to-bill ratio above 1. In polymer processing solutions, we significantly increased sales by 40% and margins by 330 basis points. This confirms our strategy of enhancing technology leadership in filament and extending ad markets into non-filament. Our group operational APTA of 119 million Swiss Francs increased by 31% compared to last year. This actually represents the highest first quarter EBITDA since we refocused our business on two divisions. Continued cost containment and operating leverage support the margin expansion year over year. Summing up, we as a team have delivered a robust Q1 supported by our solid operational execution. Based on Q1 and current visibility, we confirm the 2022 group guidance. On the next few slides, I will give you a business update before Philipp goes into the financial details for the first quarter. Now let's move on to the market update on page four. Our end markets recover at different speeds. In polymer processing solutions, we experience strong demands. In the filament market, key filament producers continue the vertical integration. Our latest technologies save significant energy for our customers and are a strategic priority. Overall, the filament equipment market has more than doubled in the last 20 years. The market growth is driven by growing population and man-made fibers having better availability and lower resource intensity than natural fibers. Erlicon is the technology leader in the filament equipment market, and we are about to leverage this knowledge into new non-filament markets. In Q1, we continued with substantial organic growth in non-filament. We see strong demand for plant engineering solutions, such as polycondensation plants. We also see a positive market development for carpet yarns, particularly in the US. Flow control, which includes our recent acquisition of InGlass, continues to perform strongly. In automotive, flow control benefits from the need to reduce vehicle weight through lightweight polymer components. In non-automotive, we are capitalizing on customer synergies with service solutions. Overall, Tim Erlichon is well on track in transforming polymer processing solutions into a growth platform. Our order books are filled for 2023 and firmly on track for 2024. In the service solutions division, We are operating across the tooling, automotive, aviation and general industries and markets. The recovery continues to differ by end markets. We achieved combined 15% order growth in Q1. The general industries and markets saw solid growth as our longer cycle business starts to recover. The recovery in general industries is broad-based, including strong demand in luxury, semiconductors and energy. In automotive and tooling, we saw supply chain interruptions due to the shortages in the first quarter. As such, we were indirectly affected by temporary shutdowns of major customers. We are closely managing our operations and production capacities in order to efficiently deal with this situation. We see supply chain interruptions as transitory. The strong demand environment alongside sustainable megatrends give us confidence for underlying medium-term growth. We also see strong development in forming tools and polymer coatings, where we have a common customer base and synergies with polymer processing solutions flow control business. Finally, in aviation and space, sales continue to recover in Q1. Aviation remains still substantially below pre-pandemic levels. The initial recovery is mainly driven by demand for MRO services. So, summing up, we see a strong market environment in polymer processing solutions. In service solutions, we are closely monitoring and mitigating the impact of transitory supply chain bottlenecks. We expect them to continue in Q2 and to ease in the second half of the year. Overall, the strong demand environment across our end markets is a very positive indication of medium-term growth. In terms of the Ukraine-Russia war, we are monitoring the situation closely. We do have no employees in the Ukraine, and our annual sales in Russia were below 5 million Swiss francs last year. We are right now in the process of discontinuing our Russian operations. And now, let's move on to page five, where we highlight progress and our strategic priorities. Our strategy to drive profitable growth extended receivable markets and gain market share is unchanged. As a result, we are focusing our strategic priorities on growth, profitability and sustainability. In terms of growth, we continue to drive technology leadership and innovation in Q1. For instance, we launched new coatings for plastic processing tools in automotive. Also in e-mobility, we continue to successfully pioneer coating solutions for battery electric and fuel cell cars. With regard to diversification, we almost doubled sales for non-filament in polymer processing solutions. In service solutions, we achieved growth in luxury semiconductors and additive manufacturing. In terms of profitability, we achieved a further expansion in operational APDA margin. We paid a stable dividend in April and continue to have a solid balance sheet. And finally, sustainability has been a key priority for Oerlikon since many years. We continued with the implementation of energy management systems in Q1. Our products are clearly at the core of improving the sustainability and efficiency of our customers. We highlight this in the 2021 sustainability report that was recently published. Summing up on the slide, Team Erlikon consistently executed on its strategic priorities. This is driving top and bottom line growth. And now before I hand over to Philipp, we have to take a look at some takeaways from our 2021 sustainability report on the next page. I am pleased that external agencies are beginning to recognize our progress in sustainability. we had positive momentum with several rating upgrades in 2021. This is backed by a clear sustainability roadmap to 2030, for which we highlight our commitments on the left side. Our ambition is to become climate neutral on scope one and two emissions. We also launched a project to define the calculation of scope three emissions in 2021. This will provide us with a base to formulate an action plan for future emission reduction. And I'm also pleased to see that we are already progressing well towards our targets. Fifty-four percent of our group energy consumption is already today regulated with energy management systems. We also reduced disposed waste from 42 percent to 31 percent. And last but not least, 72 percent of our R&D is already today aligned to ESG criteria. We intend to improve that to 100% by 2030. We show this as a direct benefit to our customers on the next slide. Besides improving our environmental footprint, we want to help customers to match their own greenhouse gas and energy reduction objectives. In service solutions, our coatings are improving the sustainability footprint of our customers. They reduce weight, increase efficiency and extend component lifetime. For instance, they extend the lifetime of metal tools up to 160 times. In planes, they increase efficiency of turbine engines by 5%. It means planes can fly 5% longer with the same amount of fuel. In polymer processing solutions, our new equipment allows for up to 40% energy savings, which has already become a key requirement of our customers. Furthermore, our flow control solutions enable lightweight materials which are used in e-mobility. It's important to note that man-made fibers enable water savings as they are much less resource-intensive than natural fibers. Summing up, both divisions help our customers to reach their sustainability objectives. As such, we are well positioned to benefit from sustainability megatrends. This, alongside improving commercial activity and strong operational execution, provides a positive backdrop for our mid-term outlook and profitable growth. Tim Ehrlichorn has done a fantastic job in preparing the organization for the next stage of structural growth. With that, I will now hand over to Philipp, who will take you through our financials in more detail.

Thank you, Roland. As usual, I will start with the group results. and then provide more details on the divisions. At the group level, orders were 790 million Swiss francs, up 23%, driven by strong demand in polymer processing solutions and the partial market recovery in surface solutions. Sales were also up 23%, to 698 million Swiss francs. Both divisions contributed to the sales increase. Our group book-to-bill ratio was above 1.1. Operational EBITDA was 119 million Swiss francs, a 31% increase versus the prior year. Our margin rate increased by around 110 basis points to 17%, driven by operating leverage and tight cost management. As Roland highlighted, we are close to exiting our Russian operations. We therefore classified our Russian business as discontinued activities. This resulted in a low single digit one-off expense. Operational EBITDA is adjusted for this impact. With that, let me go through some more details on Surface Solutions. Surface Solutions and markets continue their recovery. However, global supply chains remain strained, which leads to certain delays at our customers. In this context, Orders were 376 million Swiss francs, up 15%, while sales increased 8% to 328 million Swiss francs. We saw solid demand in general industries, and we also saw aviation continuing its recovery in Q1. Impacts from supply chain shortages were in line with our expectations. We expect sales growth throughout the year. This is supported by a book to bill ratio of over 1.1. To a certain extent, the situation remains difficult to predict and the exact profile for the remainder of the year will depend on the geopolitical situation and the COVID pandemic. Specifically in the second quarter, we expect certain production delays driven by the current COVID lockdowns in China. We expect to catch up on the majority of these delays later in the year. Operational EBITDA in the first quarter improved 9% to 59 million Swiss francs. Margins increased slightly with operating leverage and cost control being partially offset by negative business mix. These mixed effects were driven by significantly lower revenue in some of our high margin businesses like FinFilm and PVD Solutions. The lack of activity was due to the transitory disruptions of our customer supply chains. Based on the current visibility, we expect these effects to normalize throughout the year as activity in these high margin businesses returns to normal levels. Next on polymer processing solutions. Orders in polymer processing solutions were 415 million Swiss francs. This is up 31% versus the prior year. Both filament and non-filament are growing. Sales of 369 million Swiss francs were up over 40%. On the one hand, this was supported by strong organic end market demand and the solid order book we built up last year. On the other hand, InGlass contributed and accelerated our diversification into non-filament. Organically, sales were up 28% at constant exchange rates. We are on track to reach our full year guidance of 1.5 billion in sales. In the second quarter specifically, we expect certain shipment delays driven by our own operations and our customers' operations in China. Operational EBITDA increased 78% to 58 million Swiss francs. Margins were up 330 basis points to 15.7%. supported by operating leverage, the in-glass acquisition, and cost efficiency. With that, let me conclude the presentation on the next slide. The continued focus on executing our strategy has positioned Erlikon well for profitable and sustainable growth. We're set up to deliver solid sales growth in both divisions in 2022 and the medium term future. We're laser focused on margins and capital returns. We achieved an operational EBITDA margin of 17%, 170 basis points ahead of where we were in 2019. We expect further profitability improvements throughout 2022. 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 Q1 results and the current visibility, we confirm our group guidance for the year. We continue to expect group sales at approximately 2.9 billion Swiss francs 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. Based on what we see today, we expect surface solutions to be closer to the lower end of its sales guidance of 1.4 to 1.45 billion Swiss francs. 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. Last but not least, we are hosting a capital markets day on May 17th. We will use this opportunity to provide a deeper understanding of Erlikon's businesses and their growth drivers. We also want to enhance the dialogue between the investor community and our divisional leadership team. With that, let me open it up for Q&A.

Our first question comes from the line of Michael Firth with Fontobo. Please go ahead.

Yes, thank you. Good morning, gentlemen. Two questions really. The first one is around CAPEX and not only any potential changes to your own CAPEX requirements that you would see in the current context, but also if you are seeing any changes at your customers or customers' plans eventually attempt to diversify, for example, the filament production to regions outside of China in you know, in the current geopolitical context. Anything, any observations here would be helpful. And the second question would be regarding supply chains. If you can give us some insight on any recent changes that you may have observed in terms of availability or logistics cost developments that, yeah, that you observed during the months of March and April. Thank you.

So, Michael, I think the first part, no, we do not see any momentum in the OPP business to move out of China. This is not sensible in no direction. And from that perspective, we also don't see any impact on our CapEx planning here. I think this is... No, I cannot confirm that. And the second part, the supply chain, of course, and we are referring to bottlenecks, we obviously have in electronic parts, inverter. If this takes special efforts in managing it, we are short, but we are able to serve our customers and to deliver. And the bigger part of the challenge actually comes out of logistical limitations, right? It's not so much that we are not able to produce our parts and our components and our equipment. It's more difficult to deliver it, to bring it to the harbor on trucks and to get the containers and the vessels here. But as indicated, this is something what we expect to continue for the second quarter. And then in the second half, we expect that the situation will become better.

And Michael, just to follow up also on your first question there, we do certainly see a movement by certain customers to sort of build a filament supply chain outside of China, whether that's India, Bangladesh, Turkey, and so on and so forth. But this doesn't affect our own capex to Roland's point. But we're certainly seeing that to an extent that the independence from the Chinese supply chain there is critical for some countries. So I think that presents an interesting opportunity for us. But to Roland's point, it leaves our CapEx plans unchanged.

Okay, that's very clear. Thank you.

The next question comes from the line of Christian Otz with Baader Bank. Please go ahead.

Yes, hello. I have a question concerning working capital development. Can you give us some kind of an indication how working capital developed into the start of the year? What do you expect for the time to come and how is your free cash flow planning? And are you working on any kind of stocks or a longer rate or a longer time frame where you have raw material and products in your balance sheet? Is there any kind of strategic change?

Christian, I'll take that. We're obviously, as you know, in the first quarter, we're not providing the full working capital reconciliation. But to be honest, I can tell you in the first quarter, nothing out of the ordinary. So we had a working capital consumption, just like we do pretty much every first quarter of any given year. You know, we're building stock for deliveries, especially in the second half of the year. So I would say nothing out of the ordinary. Our total year, what we said about our cash flow expectations remains unchanged. We are building certain safety stock. we are pre-ordering certain components um just because the lead times are long uh we're not doing that sort of on unspecified items but on very standardized components both in polymer processing solutions and in our equipment business and surface solutions um the amounts there are are not out of the ordinary so it doesn't change our total cash construct for the year I think it's prudent to do that. Last year we did that as well, but we actually ended up executing through the vast majority up until December 31st. I'd expect something similar this year.

Okay, thank you. Then concerning pricing going forward, is there any kind of material change? How do you handle your pricing in surface solutions or in polymer processing?

I mean, we've talked about the, you know, really fundamentally different approach over the last six months, I would say, just given everything that's going on in the world, right? We've talked about the input cost inflation that we're seeing and how we're transferring that onto our customers. I think now we're sort of in the seventh or eighth inning of that exercise. I think it's working very well. I think there is a reasonable discussions And we're able to pass on the vast majority of the input cost inflation to our customers. I think in surface solutions, it's obviously a lot more short-term negotiations, renegotiations of smaller items of pricing, more on the individual scale. And in polymer processing solutions, it's really sort of more forward-looking. And I think the majority of the price and cost effects and so on are still outstanding products. But I would say we've tackled this very early and we're not expecting a huge impact onto the year. We've given you kind of the low to mid single digit total price growth across the company, a little bit more in surface solutions, a little bit less in polymer processing. But that's still what we're seeing. And the first quarter was in line with that, too.

The next question comes from the line of Alessandro Folletti with Octavian. Please go ahead.

Good morning. Can you hear me?

Yes, we can.

Hi, good morning, everybody. Thank you for taking my questions. I would like to ask you again about pricing, but maybe first a bit of a different perspective. You mentioned in your presentation Presentation I believe that you are booking orders already for 2024 in polymer processing Can you tell me how that works exactly because obviously your backlog is 593 million in that business it doesn't cover completely 2022 and 2023 so I guess you're talking about what you talk soft order backlog normally and How does this work? What's the risk of then having pre-discussion with clients and then not having the order at the end of the day booked because they go somewhere else when you're ready to book it? And then I come back when you have an answer on the pricing.

We've never seen that, Alessandro, happening. Typically, it's a little bit the way we book the orders. I think you are... very well familiar with it we tend to have basically when you think about the entire commercial construct both customer facing and facing our own supply chain we basically have that intact and then we will depending on the project execution and specifically you know certain payment terms letters of credit certifications on them we will book this into our order book or what we usually point to, what is maybe the more meaningful metric for you to look at in terms of the total runoff is the remaining performance obligation, which we make at the end of the year and at the half year. That is significantly larger, and I think that gives you the indication of what we're talking about, and this is really why we are confident that we have a fully sold order book here for the next year and then also for the years after that. To your question specifically, I can't recall a single instance where a customer has changed that. It's when you think about the integration of a filament plant, it's technically almost impossible to then change equipment suppliers or something.

So it's never happened. And the second part of your question, Alessandro, surprising. You can be ensured that the moment we are negotiating a deal, we anticipate and we take the right assumptions for the prices for material and ingots for the next two years. And for the OPP project business, the contract negotiation point of time is the right one to include the upcoming increases in prices. And this is what we are doing.

OK. So if I thank you for this, so if I can just as a something on this pricing issue does it mean that when the contract is signed and the pricing are fixed or or you have sort of a mechanism on how to adjust because i mean unless you have really a very good crystal ball that i would like to no but alessandro the way it works is the way it works is so

Imagine we're negotiating a contract with a customer today, right? And we'll go through all the commercial discussions. We are on the back end talking to our suppliers and talking about costs there. So we'll lock in both basically at the same time. Now, that's not 100% true. It cannot be 100% true. But for the vast majority of the cost blocks, that's what it is. In addition to that, we have certain inflation clauses in our commercial contracts. that will take care of you know other smaller cost increase items but the large cost input components you know frames the large metal stuff and so on that large electrical components that's basically locked in on both sides of the equation right thank you okay and if i may on the you mentioned all the synergies in with the flow control business

I know that some of your clients in Surface Solutions could actually be clients of InGlass and you mentioned that specifically in the presentation. Can you give an indication how relevant that was already or what the relevance could be?

I think in general, I think the phenomena is easily to be explained. InGlass is providing their equipment for mold machines companies. And on the other hand side, these molds are actually partially today coated, partially uncoated. And in line with the increasing demand on these lightweight plastic parts in terms of quality, but also in terms of efficiency, there is a clear trend that more and more molds are going to be coated. And we are here even working on, you know, a new type of coatings. We just launched and brought a new one into the market, optimizing this process here. And this is something what we clearly take as an extremely positive effect here, the cross-virtualizing of the two businesses.

Right, so I take it that for the moment it still is, let's say in terms of amount, million amount, not yet very, very relevant.

No, I think at the overall company level you don't see it, but we're actually slightly ahead of what we had in our deal model.

Right, and would these synergies, the way I understand it is like they would go rather into the surface solution business in terms of more sales there.

That's right. Those sales for coding solutions will remain in surface solutions.

Okay. Can I take the chance to ask you a last one? You mentioned among the elements that draw profitability, you mentioned cost efficiency. And I was wondering if you are at the end of the rope there, or if you have additional measures that you can enact now and maybe over the next quarters into next year. And if you can sort of quantify the amount that you think you're able to optimize.

I think what we've explained is on the cost efficiency side, if I understand the question correctly, the restructuring programs that we ran inside the company are done. I think that's very important for us. We've achieved what we wanted to achieve and obviously as a company we do not want to be in a lingering state of sort of constant restructuring. So the restructuring actions are done. The biggest really item for the next couple of years is for us digitizing a lot more of our backbone. You know, we're going through a significant number of SAP ERP upgrades. And I think that leads to process improvements, process standardization, specifically on our more distributed business, the surface solutions business. I think that's the next step, really. I think what it will lead to is us really being able to generate strong operating leverage. So I don't know that we're going to take out an additional amount of SG&A through that, but I think it'll allow us to increase total structural costs, not just SG&A, significantly less fast than the top line is going to grow. And I think that's what we're aiming for.

Great. Thank you very much.

The next question comes from the line of Sebastian Vogel with UBS. Please go ahead.

Hello, good morning. Can you hear me? Yes. Perfect. I got three questions. The first one would be on the guidance. You were outlining the group guidance, also on the top line guidance for the segments. I didn't hear something on the margins for the different segments and your guidance on that one. Maybe I missed it, but could you clarify if your thinking has changed compared to the full year numbers? Also in the full year guidance, you included a CapEx indication. Is that also still valid? That would be my first question.

Yeah, and I think the short answer is yes. I mean, I think we said polymer processing might be, you know, we feel very confident. I think surface solutions, top line. I think surface solutions we talked about could be towards the lower end of the sales guidance from a margin range. Both are unchanged, and the company guidance from a margin range is unchanged as well, and so is the CapEx guide. Understood. Unchanged.

Got it, man. Thanks. As well, you mentioned in the slide deck when you were talking about polymer processing the potential impact from China that you see potentially some sales being moved from the second quarter into the second half of 2022. Is there some chance to sort of give more of a quantitative flavor of how much of volumes can be sort of been meant by that?

The phenomena you are referring to is correct. And it goes back to the sheer fact that we face logistical challenges, right? We do have equipment and stuff in our sites and we are not able completely to deliver it in time to the customers. And this is, we don't quantify the number, but this is on a monthly basis, a certain amount. But substantially, you know, for the entire OPP business, it's minor. And we expect that this phenomena is of temporary effect. That means as now referring to 2020, when this pandemic topic kicked in, we had a substantial impact for one or two months and then we have been able to recover. This is what we assume here as well.

Understood. Then a tiny housekeeping question in the end. This restructuring cost discontinued line at surface solution that you're, I guess, showing in the appendix. What sort of level could we expect for the full year 2022? It's just like taking the Q1 number by four, or is there any sort of seasonality or whatsoever linked to that number that we should keep in mind?

No, it really was more of a Q1 event. We had certain integration M&A costs that we don't expect to repeat And then we had obviously the costs related to the discontinuation of our Russian business. That's also done. We've accounted for that. So I would not multiply that by four. Keep in mind, those are not cash costs. This is pure CTA booking.

Got it. Perfect. Thanks. That has been all my questions.

Thank you.

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 goodbye.