Luceco plc

Hello and good morning, everybody. Welcome to the interim results presentation from the CKPLC for 2020. Slide three, if we can start with that, is a brief overview of the group. All of you will be familiar by now with who we are and what we do. I would just point out one aspect of this slide, which is the wiring accessories business. has had a very strong period and as a percentage of the group total has increased to 44% in the period. If we now move on to slide four, I will take you through the financial and other highlights of the period. So the revenue was 13.4% lower than last year, which in the end was a better performance than we were expecting in March. And throughout the period, improved so by the end of the second half was running about 90 of normal and since the end of the first half it has grown significantly in line with the diy consumer boom which has come about as consumers have been spending more on their homes and not on going out or on their holidays the reduction in revenue however was more than offset by the record gross margins and the stringent overhead control So the gross margin in improvement was all the more impressive in the light of the weak demand, which was obviously a drag on the first half margins, but will reverse in the second half as the volumes improve. This resulted in operating profit 25% higher than last year at exactly 9 million pounds and adjusted free cashflow doubled to just over 10 million pounds. operating cash conversion of more than 100% as the lower activity resulted in the reduction in working capital. The closing net debt of just over 22 million, a huge reduction from last year, equal to 0.8 times first half EBITDA and will show a further reduction in the second half. Adjusted EPS, therefore, of 4.3 pence, almost 40% higher than last year, partly due to a lower effective tax rate. On the dividends, and Matt will talk more about this later, we have revised the policy so the ratio has been doubled up to 40 to 60% of after-tax profits will now be paid out as dividends. and this results in a 3.2 p dividend 1.5 p is the 2020 interim dividend and 1.7 p is the dividend that we would have paid earlier on this year but was suspended because of the virus if i could now go on to talk about the virus itself and how we responded to it obviously because we own a factory in china we were aware of the problem right from the beginning of february which meant that by the time the lockdown etc happened in the uk we were well placed and we had a plan of what we had to do obviously the primary focus was on employee safety and well-being but we were able to mitigate the reduction in activity with productions in overheads in a timely manner as it turned out

demand was actually stronger than we were thinking because our share of the online channel and the diy okay well thank you good morning uh everyone just whilst we wait for john um as john was in the process of saying actually demand was stronger than we thought it might be thanks to our good share of both online and diy markets and so much so that the business had returned to growth in the second half And that allowed us to bring our employees fully back from their initial furlough. So actually, as it turned out, a relatively good outcome at the end of the period. On the operational highlight side of things, we've highlighted before the four key things that we're trying to do to improve our business model. New product development has always been a hallmark of Luceco. That is activity that we've continued despite the constraints and cost constraints of COVID. we realise how important that is to our future. uh we've continued to make the necessary changes to our manufacturing capability to lower product costs um into the both in the past and into the future and john will talk more about that in the in the second if he if he returns we've invested in our warehouse capability in the uk to improve service and lower cost and we've made numerous enhancements to our it capability again to improve service and lower costs so So I think it's fair to say that progress on those key work streams was inevitably slightly disrupted by COVID in the first half as our attention turned to that. It is progress that we expect to accelerate in the second half of the year. Okay. All right. So if we now move on to the financial highlights, starting with the income statement. So working from the top down, I think this just sort of slightly goes over the same ground that John was covering. So H1 revenue came in at 71.6 million. That was 13.4% lower than the previous year. Obviously, that outcome was heavily influenced by COVID. But as John alluded to, actually, the outcome was better than we initially expected it to be. The recovery was quicker than we expected it to be. And we were very pleased to see the business return to growth at the start of the second half. I think the really good news is that we managed to offset the effects of that revenue reduction with progress further down the P&L. most notably gross margin. So a 3.4% improvement year over year to 38.4% for the half. That represents our fourth successive half of gross margin expansion. And if you add up the progress over that two-year period, it equates to over 1,100 basis points of gross margin increase, which is great. And I'll come to talk about the drivers behind that in a second. Suffice to say that we do expect to make further progress in the second half. And again, I'll explain the reasons for that also. On the overhead lines, I think in summary, what we did is we viewed all of our overheads as variable. So therefore, with that mindset, we managed to reduce the overheads by more than the reduction in revenue as a percentage. And that came from acting quickly, having good visibility of the virus from the start, acting decisively, but not doing anything I believe that would in any way compromise the future of the business. So no salary cuts, no redundancies, and NPD, our new product development activity continued throughout. So the good progress on gross margin and the progress on overheads allowed us to actually grow our operating profit by 25% during COVID to 9 million. And our operating margin percentage ended up in the middle of our previously published range of 10 to 15%, which is not a bad performance considering the backdrop. We also managed to reduce the effective tax rate from 23.4% last year to 19.3% for the first half, really through tax planning, making better use of available tax losses. And all of that put together, resulted in an earnings share increase of very nearly 40% to 4.3p. Moving on to the next slide, what I wanted to do here is just give you a sense for what COVID was doing to our activity levels during the half and then into the second half. So what you're seeing there is a daily recalculated assessments of full year revenue, so LTM revenue. And this is really how we were looking at it and managing it. And it literally had to be managed every day during the period. I think the sort of impact of the virus can be divided into three phases. So the first was the first quarter, where COVID was at that stage really for us only impacting China, only impacting supply. And it resulted, as you can see, in a £5 million reduction in annualised revenue. Now, that was obviously a relatively significant impact, but it was an impact that we felt that we could recover in the second quarter. if the virus remained in china only i think obviously as we got towards the end of that quarter it became increasingly apparent that that wouldn't be the outcome and the virus was progressively escaping chinese borders so it began to affect demand also in the markets in which we sell And that effect was more dramatic. So you can see having lost five million pounds of revenue in the first quarter, we lost another five million in the month of April alone. And we prepared the business for really a continuation of that trend. So we had a cost mitigation plan ready to go. We triggered it at the start of April. It reduced our fixed cost base by 40% really overnight. And I think that's what we had prepared ourselves to endure. The interesting thing is that April was really as bad as it got. So underneath all of this, whilst there was an inevitable initial shock, actually retail consumer demand we feel remained relatively robust throughout and we were in a good position to meet that demand because of our good channel access so particularly our relationships with online distributors as well as as hybrid operators as well so that certainly helped and it resulted in the end in a decline in revenue slowing to only 10 by the end of the second quarter if you then roll forward to the second half you can very clearly see a recovery in annualized revenue What has driven that? Well, I think demand on the professional side of the business has been a bit slower to recover, but it did recover in the second half. So it resumed low single digit growth. And we also saw particularly, so we have seen particularly strong demand from consumer channels, some of which we feel is restocking in the channel after having experienced a better than expected Q2. okay so that's the impacts of covid through time if we go on to the next slide this gives you an idea of the impact of covid by geography so the top two charts deal with our uk business um top left you'll see uk retail which is our biggest individual you know part of the business What you see there is a relatively early impact of COVID. And the reason is that we sell to these larger customers on an FOB basis. And that means the customer picks up the products in China, which is difficult to do if your own factory is closed and the port is closed and the country is in general lockdown. So you saw a relatively impact in that part of the year, or part of the period, should I say. I think the most important part of this chart is what then happened to that part of the business in the second quarter. So a really quite good recovery, much better than we thought. And it goes back to what I said before, good continuing consumer demand, which we were well placed to fulfill. And as a result, we feel that we outperformed the market. If you look on the top right, you see almost the mirror image. So relatively little impact on the UK professional channel in the first quarter. The reason being that these customers, whilst there was a supply chain impact for us, these customers were drawing upon our UK inventory and therefore we had a buffer to be able to continue to meet that demand. If you then look into the second quarter, you see a much more meaningful impact. There's probably two reasons for this. So the first is that wholesale networks generally, I think, took a more stern approach to lockdown. So they comprehensively locked down their networks and they did so for longer. And these types of customers perhaps don't have quite so developed online capability or click and collect capability. So the impact for them of locking down was greater. And the second big reason is that organizations inevitably cut back on their commercial capex spend and that affected our LED project business. I would end that just by saying that whilst the impact in Q2 was quite large, I'm pleased to report this channel in total had returned to low single digit growth at the start of the second half. as they emerge from lockdown. On the bottom half of the chart, you can see Europe in the bottom left. The big reduction that you see in Q2 was really just a function of continental European governments taking a more stringent approach to lockdown than perhaps what was adopted in the UK. So quite a big impact. Again, I would just stress that either side of the European lockdown, we actually saw really quite good growth from our businesses there. So no particular cause for concern. And then bottom right, you see rest of the world. Actually, we delivered growth in this geography in the half. Mostly that was a function of areas or regions like the Middle East and countries like Mexico being less affected by COVID than other parts of the world so we could get on with the business of selling. Okay, moving on to the next slide. This is probably one of the more important slides in the deck. Obviously, gross margin improvement has been a key feature of the group's recovery over the last two years. And I think the momentum that we had in this area was one of the big things that insulated us from COVID during the first half. This shows you really the entirety of that journey over two years. So back in the first half of 2018, our gross margin actually was at a historic trough of 27.3%. I think the reasons for that trough were well explained and covered at the time. So we experienced adverse and unhedged movements in FX and in copper prices. And we had not reset selling prices accordingly for various different reasons. I think the initial plan back then was to at least get our gross margin back to its previous peak of 31.9%. I'm pleased to say we're somewhat overcorrected. um so this this takes you through the chronologically almost the things the levers that we pull to reconstitute the gross margin so um the first would be selling prices so we put through a sort of an overdue selling price in 2018 in response to those fx and copper moves i think it's important to say that we have not put any further price increases through since then so none in 2019 none in 2020 and I think that stands as apart from others in the industry. This gross margin story has not been built upon, if you like, the backs of our customers, far from it in fact. so that's the sort of the selling price story from from the very very beginning of this journey fx and copper the environment was quite adverse in 2018 it has improved since then as you can see and the good news is that we have now hedged in at those more favorable rates for the rest of this year and also in large part for next year as well so so that is something that we are at this stage you know not not unduly concerned about but i think the external factors such as as that are not really the biggest driver of the story i think at least as important has been what we have done from inside the business to improve the gross margin for ourselves and in particular Frankly, what we've done is lower the cost of products through either manufacturing efficiency gains or designing lower cost products or seeking better sourcing arrangements with suppliers. And I'll come on to speak about those in more detail in a second. So you put that all together, you reach the destination points of 38.4% for the half. I think the interesting thing is to see the final red square on the waterfall chart, i.e. the end point was achieved despite actually an adverse sales mix. So in the first half, as I described earlier, we had a relative lack of high margin professional sales. That's a situation that I expect to normalize in the future, starting in the second half. And that's one of the reasons why we expect gross margin to improve as we go through the rest of the year. Moving on to the next slide. So this gives you a bit more detail on how we have achieved the reduction in product cost, which has obviously been a key feature of the gross margin story. The top half lays out what we've done to the cost of the products that we make ourselves. So if you look at a consistent basket of goods and you normalize for changes in FX and commodity rates, and you just look at pure manufacturing efficiency, over two years, what we've done in real terms is reduce the average production cost by 12.5%, which is obviously very meaningful. The way in which that has been achieved has been through a very large number of small actions, which would be impossible for me to cover. uh completely i've given you some key things on the on the right hand side there but i would say there's probably two big drivers two foundational steps so the first is we hired a new management team and this management team have spent their careers delivering ever better manufacturing efficiency in relatively low growth environments and that's the first thing and the second thing is that that team have brought a change in mindset to the rest of the team uh and the mindset now is it's not about capacity expansion which was probably the story up until 2018. um the story now and the focus now is much more on every day eating out ever better manufacturing efficiency and continuous improvement and you can see the difference that it's that it has made to our production costs and i think i would like to think there's more to come in this area Okay, and then the bottom half of the of the charts, you can see the same thing, but for third party and source products. And I've given you some examples on the left, particularly in the LED category. So very meaningful reductions in in third party sourced items. How has this been done? Well, the first step, foundational step, was to start paying our suppliers on time. In fact, this is something that we talked about back in 2018. I think our trade creditors at the end of 2017 would double what they are today. So we focused very much on the key parts of the supply deal was the terms that could be offered, not necessarily the prices. And that's what we needed to do to fund the business back then. Well, you know, we are now in a very different place. You know, we are paying our suppliers on time. We've turned the debate to cost. And frankly, we've got more suppliers that we can now speak to as a result of being, you know, on time payers. So I think that has been key. A lot of work has been done in redesigning products to take cost out of them, which has been significant. And the third thing I would say is that probably in 2017 and the first part of 2018, we were a bit too precious about making things for ourselves in-house rather than being ambivalent about making inside or outside and merely focusing on the economically cheapest way of getting our hands on the product. So I think that decision-making process has improved for the better. Okay, moving on to the next slide. obviously i mean the gross margin improvement has been has been significant and it has been from the outside looking in i guess quite dramatic i'm sure there will be concerns inevitable concerns that perhaps this gross margin improvement might reverse at some point in the future this slide is intended to provide comfort on that so what i've done here is i've shown you on the left hand side our mix of business from from wiring accessories accessories through to ross And for each segment, I then sort out what kind of gross margin would an average performer in that space deliver? And what kind of gross margin would a top performer in that space deliver? If you then take those benchmarks and you weight it for our mix of business, what it tells you is a nothing other than average company doing what we do would make a 36% gross margin. Obviously, we see ourselves as something better than average. A top performer would generate a gross margin in the low 40s. so i think far from you know suggesting a concern that this gross margin might reverse what it gives you comfort that the gross margin we're making is sustainable perhaps even you know possibly the opportunity to improve it in the future okay moving on to the next slide I think overheads I won't go through in a lot of detail. As I mentioned at the start, we achieved a 15% reduction year over year. The waterfall chart shows you the things that we did. I think, again, I would just reinforce what I said before, and that is that this is a function of acting early, acting stringently, but not compromising the future of the business along the way. So we were very happy with the outcome for the half. Just as one sort of cautionary note, we do expect overheads to increase in the second half. It's a good reason rather than the bad reason. And as much as the business can now afford to you know bring all of its people back it needs to bring all of its people back from temporary layoff it can afford to pay a bonus and quite rightly so it will incur additional freight costs on extra products sold so overheads will increase i will say that i do not expect them to increase to last year's h2 level which is 22.6 million. It should remain below that, and that will be achieved despite the fact that revenue for that period will be higher than last year. So that's, I think, a good balance overall. Moving on to the next slide. segmental results. So I think the headline here is that all of our major segments, and by major I mean wiring, LED and portable power, all of those either held or increased their operating profit in the period of COVID. Obviously, the only exception is our very smallest segment, ROS, which reduced its profit only very marginally. And actually, I'd expect them to address that in the second half. If you focus on the major segments, if you look at those segments where demand was strongest, so wiring accessories and portable power, for wiring, I would say that was a function of us outperforming the market. Largely, there were some business wins within that, but also it's a function of the superior channel access that I referred to earlier. So we outperformed the market in wiring accessories quite handsomely. Possible power, this is another one where the reduction in sales was below the group average. I think this was probably more the market than us in as much as during the lockdown, there was good demand for leads and reels as people worked from home or improved their homes. So it resulted in a relatively modest reduction in revenue. On the LED side, the reduction in revenue was a bit bigger. That's simply because it's quite a commercial, commercially focused part of the business for us. I think the good news is that even though there was a reduction in the top line, margin improvement, particularly from product cost savings that I referred to earlier, helped us to actually grow the profit, even though with a reducing top line, which was a good result. okay next slide so moving on to the sort of balance sheet cash flow side of things so starting with free cash flow what you can see is another strong and resilient cash performance from from the group um i think it's helpful to think of why are we able to continually do this i mean i would say it's a it's a function of our business model mostly so You know, if I were to put it this way, I think we are sufficiently high tech that we can generate and command relatively good gross margins for the products that we sell. um these sales are sticky um the barriers to entry are reasonably high in terms of the capital requirement or the brand requirement and so sufficiently high tech to generate good gross margins and obviously good gross margins are the key to good cash generation but we're not so high tech that we then have to take a big chunk of that cash and then continually and reinvest it in retooling our factory for new products, retooling our inventory for new products or suffering inventory obsolescence risk. So we're in that sort of happy medium tech kind of ground, which tends to lead itself to good cash generation. And the second thing I would say is that we're actually really not that cyclical. So, okay, we are UK focused, but we are diversified within the UK. And the proof of that is what you've seen in the first half of the year. And we're mostly RMI focused as well, which tends to be that little bit less cyclical. So the cash flows tend to be high and relatively predictable. um i think the only thing that the business um really needed to do to bring out this natural cash flow was just be a bit more disciplined around where it chose to grow uh and also be a bit more disciplined around working capital and both of those two things have been done uh over the last two years and you can see the proof of that pudding here okay moving on to the onto the next slide And of course, you can now see what that free cash flow has done to our indebtedness. And I know this is a slide I've used before, but I liked it so much last time I've done it again. Over the last two and a half years, we've generated £48 million worth of free cash that has come in at a roughly, on average, just under 12% free cash flow margin, which is great. And that has allowed us to do what needed to be done, and that is eliminate the funding risk from the business. uh from 3.5 times the end of 2017 down to 0.9 times uh now so uh great progress in fact so much progress that uh in the end we didn't need to proceed with the covenant resets that we talked about at last year and because frankly they just weren't required uh what we did instead is ex you know instead is extend the term of our existing bank facilities through until the end of q1 2023. So great progress. Obviously, I think that then begs the question, with the balance sheet, quote unquote, fixed, what does one do next with the cash that this business throws off? And you'll see on the next slide what that is. So the first thing we're going to do is to reset the dividend policy to make it more appropriate and fair. So the reason for that is shown on the left hand side of the chart. So again, over that same two and a half year period, the business pre CapEx has generated free cash flow of £58 million. Using our existing dividend policy, only £1 in every £10 has ended up in the hands of shareholders. Now I don't feel that's a sustainable place to be. As it happened at the time, it was very useful because it allowed me to get on with the business of deleveraging the business as you've seen on the previous slide. But with that now having been done, there are two things that we can now do. So the first is to reset the dividend policy. So to increase the payout from 20 to 30% of PAT or adjusted EPS to 40% to 60% of adjusted EPS. We'll start at 40% for this year. We're also going to pay the 2019 final dividend that we suspended at the height of COVID. So that will result in a 3.2p dividend declared at interim. So that's the first thing. And the second thing is that even after having done that, that dividend policy will not get in the way in any way of our growth strategy. So we will continue to be able to fund CapEx appropriately in the business. And we should actually, as you can see from the pie chart, we should have lots of free cash still left to do other things. And I would like it if that other thing was emanating. Moving on to the, I think my final slide, yeah. So balance sheet, I won't go through this in much detail. It's really just a function of the actions I've previously described. I think the standout points on this slide would be that in real terms, Through COVID, we reduced our working capital by 4.5 million pounds or 8%. And we did that by very proactively managing inventory. So we started reducing production output and reducing purchasing long before the UK ended up in lockdown. And we put extra emphasis on debt collection. So during the period, we have managed to avoid any material bad debts, which is great. So appropriate management of the balance sheet throughout. I think that's it from me, Tamsin. I'm hoping that John might now be back online.

Yeah, so as I said earlier, we were determined not to lose this year. in terms of progress in all the other areas of the business. New product development, which is an area which historically has driven significant growth throughout the group, has continued as per normal throughout the COVID period. Office electrics is a new channel and a new whole sort of business area that we're particularly excited about, and we're launching a range later on this year. This is sort of targeted at commercial offices. which unfortunately of course with the covert timing maybe isn't now everyone's focused but when things return to normal there is a whole category of electrics on the desk behind the desk and under the floor which is an area we've not been involved before which um seems to be high margin not very well served and we believe that we can do some good business in this area and then there's a list of other products that we've been working on We've also continued to work, as Matt said earlier, on improving our factory in China. So basically more automation, more sort of lean manufacturing processes. And ultimately, this hopefully will enhance the group margin in the years to come. Other key initiatives we've been working on is to improve the customer experience. So we've invested a lot in the warehousing and distribution setups, particularly at our UK warehouse up in Telford, a warehouse management system, a demand forecasting and MRP system upgrade, all aimed at enhancing the customer experience such that we have a best in class proposition. We've also been investing in IT enhancements across the group. We had a cyber attack about a month ago, which we were able to handle reasonably well, but as a result of which we are investing in further cyber security enhancements. We've also been investing a lot in our product assets in terms of the digital marketing space because more and more of our customers are doing more and more transactions online, which means that all of our product marketing efforts have been targeted at improving how our products appear in the digital space. As Matt spoke about earlier, we consider that M&A will be a future key driver of the growth as the core business has become highly cash generative. In terms of funding capacity you can see the graph in the top left has improved steadily over the last few years and by the end of this year would be north of about 60 million pounds and that is operating within the in the two times maximum leverage ratio. in terms of the priorities obviously wiring accessories is a very high margin business that we like a lot however as you can see on the right hand side wiring accessory targets in europe are few and far between we've actually only i identified nine targets whereas the led space is probably more likely for future acquisitions just because there are so many more appropriate targets meeting our criteria. We would, however, not limit it to only wiring accessory and LED targets. We'll also be looking at product adjacencies and or areas where we think we can use our manufacturing expertise in China. Obviously, the more product we can drive through our own factory, the higher the margins we can make. And if we move on to the next slide, which is the current trading and outlook. Current trading is strong. We have a pretty good idea now of the result for Q3. And we have a strong FOB order book for October and November. the consumer sort of diy boom which i spoke about earlier has been benefiting customers like amazon customers like screw fits customers like pool station as well as the diy sheds where we have an extremely strong presence these higher volumes in the second half will also result in higher margins as we're able to put more volume through our factory and the great cash conversion will also lead to a further reduction in the leverage ratio. For the full year for 2020, as we have said in the R&S announcement, unless there is further macroeconomic headwinds at the end of the year, we do think we can make significant progress beyond the guidance that we have put in the market. However, there is obviously a huge amount of macro uncertainty as to what may happen towards the end of this year. Into next year, again, the outlook remains uncertain, but we have been successful in picking up some significant new business wins in some of our larger customers. And that with all the internal improvements we can make, which we believe will result in higher gross margins, should mean that we can make further progress next year. There is, however, a question as to how much demand will be affected as and when people leave their homes and return to work in their offices, and also what the wider economic landscape might look like in the post-COVID period. But having said all that, we remain extremely optimistic about the future. And that's the end of the formal presentation. I will now hand over to Tamsin to manage any questions.