HMS Networks AB (publ)

Thank you. Good morning, everybody. Greetings from sunny Stockholm. And me and Joakim would like to take you through the quarter free report. Not too much sunshine on that, unfortunately. But let's take a look on the agenda for the day. So I will start with a short business update and talk a little bit about our new organization that we presented earlier this week. And then I'll switch to Joakim and you will talk about some financial results and we end up with a Q&A. But let's first look on the quarter we're closing. We start from the top. We see net sales minus 30% organic. The reason why we see plus minus here is, of course, we added the big red lion part compared to last year. But of course, we are very disappointed to see this weak market situation. We were expecting this to be slowly ticking up, but we see it continue on this kind of low level. Order intake also negative minus 8% organic. We still see that there are some inventory adjustments and Joakim will talk a little bit more about this in the numbers. However, we see that we improved our cost level. We have minus 22% on our organic OPEX. So we're trying to mitigate what we can on OPEX. the cost side to adjust for this weaker market. And we see that our adjusted EBIT is 194, a little bit of reduction from quarter three last year. But we are quite okay with our adjusted EBIT margin of 24.5%. I think what we've done, what we can to really mitigate the weak market. And we are also improving the cash flow. After a couple of quarters with the inventory building up, we are now taking... good activities to really reduce inventory and joaquin will also talk a little bit more about that so let's switch to um a business update where we see as i said market is weak especially especially we are surprised about north america where we see some good traction before but uh quarter three really was a weak quarter also for a red lion and Difficult to say what it is, but of course, in the US, there's a lot of wait and see at the moment. People are waiting for the election, and maybe this is giving us a bit softer market as well, that it's easy for customers to wait with some investment decisions. In Europe, we are a little bit concerned about Germany. Automotive market is really slow. In general, the machine building market is also slow. So I think... Here we see a lot of negative press, negative attitude by customers. So this is not good at all. Asia, we see a good development in China. However, China is a quite small market, some 5-6% of our revenue. But we had a good quarter in China. Marketing Japan is still very much into adjusting for their a big inventory and our large customers there is talking about they don't need to place new orders in the couple of quarters so there it will take some time before we see move up in japan but it's mainly due to the inventory situation of large customers we see quite good development of winning new customers so we feel that we have an attractive offer but it's the existing customers that see a weak market but we do good design wins and we feel that we are winning businesses We also presented our new organization. We have some slides about that to focus on how we build this company into free division, industrial data solutions, industrial network technology, and new industries. Talk more about this. And we also made a new acquisition, Peak System. We signed it 1st of October, and we will get our hands on this the 1st of November. Interesting company. And we also divested a small part of Red Lion. It's a German business, quite small. where we see a lot of similarities to our E1 business and we felt that there was not really any business logic to integrate this. So we divested this by a management buyout and leaving this to the management to take forward. Peak System, interesting German company, key offering in software and hardware for communication technology, especially for vehicles like EV, cars, heavy duty vehicles, intralogistics, medical, and some other applications. There's some similarities with our ICSAT business, but it's a complete complementing product. And we see that we have 50 employees, quite many R&D, very well established company. They also have a development center in France. So we think that this is a good addition to HMS, very profitable organization. They have a single digit growth at the moment and it's a 25 million euro revenue. So it's not a big business, but it's very profitable and it helps on a profit level. We're quite excited about this. People may ask about why we invest in automotive at this time. We agree that we see a weak market in automotive in the short run, but of course we do this acquisition in the long run. We see good long-term business opportunities in automotive and this medical business. If you look on the next steps here, we expect to close 1st of November and they will be part of this new division we call the New Industries. the subdivision of vehicle communication, and we'll start quite slow integration during 2025. We have our Ixat business in Ravensburg. This is in Darmstadt, fairly close to each other, but we see a lot of synergies in the product offer and how we can use our both companies go to market. You see also at the top here what we paid, 69 million euro. It's a highly profitable company. So we see that the multiple is 9.2, which we think is a fair price in the market conditions here. So we are happy with this. There will be some transaction costs, but this is a nice company and we look forward to get our hands on this for helping them to take the next step in their growth. Let's take a look at the new organization that we announced earlier in the week. We see on the left side is our current matrix model with our business units, responsible products, and our market units responsible for the go-to-market. We started this maybe seven years ago, and we are now probably, before our acquisition, we probably have grown three, four times. We added Red Lion, a big chunk, and now also Peak System. So we feel that our matrix organization, we've really grown out of it. And we also see Red Lion and Peak System as good additions. So our organization, it serves us well for some years. But we see some challenges that R&D has become quite far away from customers. Sales become quite far away from product and technology, its matrix. And we see a little bit unclear accountability, difficult to integrate new companies. So I think we also see that some of them, where we have this matrix, it's so easy for the market units to complain on the business units. It's easy for the business units to complain on the market units. We can't have it like this. We need to move on. And we think that these three divisions that we have will be much easier. So Three divisions, all facing customers responsible for sales, marketing, product management, R&D, industrial data solutions, industrial network technology, and new industries. And each of these have their own customer group and also their own product offering. There'll be some shared services. We keep our common supply chain since we believe there's a lot of synergies in purchasing power volumes. And we now integrate Red Lion supply chain with HMS supply chain. And we'll keep some group functions for M&A. So we think this will create a customer-focused organization from sales to R&D and back to customers. It will reduce complexity, and we also get the full accountability in these divisions for strategy, resource allocation, and financial performance. So this is the right step for us for our continued growth here. Take a look on these three divisions. The largest portion will be our IDS, Industrial Data Solutions. representing some 44% of our revenue. It would be our E1 business, our Red Lion business, our Entron business, and our Anybus diagnostic business. But here we focus on industrial automation and its machine builders, system integration, and users. And here we see both synergies in the go-to-market with a strong common product platform, but we also see product synergies in technology going forward. Secondly, we have industrial network technology, technology for communication, control, and security. Here, it's much more of what's used to call embedded. Here, we work with direct sales with larger device makers. They integrate our technology in their devices. Quite long sales cycle, but a very sticky business where we get revenue for the coming 10 years. And this would be 34% of revenue with a very focused global organization here. And finally, we have what we call new industries, where we would like to collect our business outside industrial automation. This is also a platform for future acquisition to grow, to become larger. Today, we start with our building automation division, and we also add the vehicle communication, including ICSA, Peak Systems, and our Ovasys business there. So this is a high level view, but we believe that all these three have different customer groups and much more synergies. So we look forward to take this step from 1st of January. All right. So Joakim, what do you say about the financial results?

I think I'm going to start off with the most challenging situation, looking at the order intake, and then you will see that the slides become better and better the longer I go. But let's jump in to talk about order intake. And I think Staffan already mentioned that we have more or less in all markets, maybe except for China, we have a quite challenging situation still in Q3. And underlying demand is down to the lowest levels that we've seen since 2021 in this situation, primarily driven by continued destocking by some of our key customers. And we have slightly different characteristics for our three main markets in the U.S., Germany, and Japan. You have to mention a little bit of that. I think U.S. is maybe where we saw the biggest miss compared to what we believed ourselves for Q3. We see that the product business within Red Lion is a bit weaker, and also the N-Bus embedded sales in the HMS sales organization is a bit lower than what we expected. primarily again driven by large inventories with some of our key customers. On a positive note in the US, we can see that the part of our business that goes through distribution is actually up when we look at the point of sale. So what the distributors are selling into the market. So it's a slightly different story looking at what we push to the market and what's going out to the end customers. If we take then Germany, which I think you've all seen is pretty dark at the moment. And we thought that we would see a stabilization in Q3 and maybe a small tick up if we went back a quarter or two. That is not the case. We see a more challenging view now than we did a quarter or two ago. And we think it's flattening out at this moment, but maybe not any soon improvements. I think we have to wait until 2025 to see anything better than what we are performing at the moment. In Japan, where we had a lot of good orders in 2021 and 2022, we still see that some of the main customers are keeping quite a bit of inventory. And I think we need to wait probably a couple of quarters out in 2025 to see a great improvement in the Japanese market. All in all, what we see is that we are not losing any customers, but we have these big inventory adjustments going on. And this is difficult to make, but we made this estimate of how much destocking we were seeing. And we believe that to be around 100 million, which is the same that we had in the second quarter. And you've been seeing this graph now with us for some couple of years. And it's a completely different story now compared to what it was in 2021 and 2022. And with this, I think we're really starting to see the end of this de-stocking. We have maybe a quarter or a bit more, and then we expect to see a gradually improving business. Going over to the sales, that is a little bit better. We're reporting flat numbers, but organically minus 30%. So also there is a pretty challenging situation. We're meeting a strong Q3 in 2023, which makes it more challenging to report a good organic situation. organic numbers on the sales side. We were a little bit surprised that we had this book to bill of 0.87. We thought that we would be more around one, both with sales a bit higher and with order intake being a bit higher. And here, I think the main thing, just as in the order intake, it is the embedded business where we have the inventory adjustments. And of course, it doesn't help that the underlying market is weak as a whole. We've been seeing some Some peers reporting as well with similar situation that we have on our view. And, well, we can only be happy to see that we have slightly improving design wins that we also state in the report. That's something positive. And we have also the E1 business is trending quite well and back to the same levels as we had last year. Also, Intesys is doing quite well. So it's really down. Our biggest challenge is the embedded business. Talking a little bit about Red Lion, here we're meeting also a tough comparable in Q3. We have reported before that we had a bit of a boost situation in Red Lion during 2023, both in orders and a little bit in sales as well, due to inventory buildup. So now we are down 26% compared to last year, 244 million. And we expected to see a decline, maybe not that big. Again, the product business is suffering. a little bit, and on the order side, we are down 1% to 244. As you might know, the Reliant business keeps a very short order book, so sales and orders are expected to be about the same, which you also see now in the quarter. We're working full speed with the integration, and now with the announcement that we made earlier this week, Staffan commented on the new organization, now we can really set full speed on all the areas. And this is, of course, something we need to balance with investing for the future and keeping focus on the current business. What we can see so far is that we've been doing quite well in the back office integration that is more or less done. We are doing some investments in supply chain and you already see some improvement in the gross margin side. And we think that we can squeeze out a little bit more with coming investments as well in supply chain, being more efficient on the delivery side. And then the big thing that we're now putting full speed to when the new organization is announced to really merge the HMS and Reliance sales organization, not only in North America, but that's where we have the biggest potential. So that is now going on at full speed. And we hope to see some good results from that maybe during second half of next year. But again, it's this down to combining focus both on the current business and doing the right things for the future. We're not the biggest organization. We were trying to balance that. Looking at the backlog, that has been on very high levels for some time. You see now we are down to 605 million in order backlog, which we believe is pretty much where we should be when everything is as normal. We have the same ratio of rolling 12 months net sales compared to backlog now as we had in 2020, 2021, beginning of 2021, before we started to see this big backlog being built up from component shortages. So what this basically means is that the order intake that we will get is pretty much what we expect to sell. Short-term book to build around one. Hopefully, we'll see that improving throughout 2020. And then having looked at the sales per region, we see now that the European and the US market is about the same size for us, just about 40%. And then APAC is 14% of sales. And this is pretty much where we expect to be going forward as well with the current business that we have. And then I said that you will see improvements the longer I go through the P&L. And I think despite this very weak top line being 30% down organically, I think we do a decent job in holding up the profitability level. We're doing a just a debit of 194 million with the main adjustments being amortization of excess values from the big acquisition with Reliant. So we're almost delivering on the The margin target of 25% has been 0.5 percentage points below. And the reason why we can do this is, well, first that the gross margin is quite good. We have 63.5 compared to 65.4. But then you need to keep in mind that we are diluting the margins with the Reliant acquisition slightly. So takeaway Reliant would have been at the same level as we were last year in HMS. And then with a 30% reduction in volumes. Of course, this is driven a little bit by a favorable product mix. The embedded business has a slightly lower gross margin than the rest of the business. And so when the embedded business comes back, you will see a different margin. Then we're also quite happy with the gross margin development within Red Lion. We've had some quick wins and we expect to be able to add a little bit more, as I said before. We're also keeping a pretty tight cost control. The OPEX is 343 million, down 22% organically. And we're trying to save back where we can. You should also know that we have some one-offs in Q3. We always have a vacation effect, so the counting impact of the way we account for vacation provisions. And then we're also, since the performance is not where we would have expected ourselves, we're releasing some bonus provisions in Q3. We have been accrual for a higher payout than what we see that we're going to have. So all in all, this is impacting EBIT positively with 25 million, reducing OPEX with 25 million. About 50-50 on the vacation provisions, which we always see in Q3, but not any other quarter necessarily. And then the other half from these bonus provisions being released. And then let me just talk about the financial implications of the organization change, the stuff I mentioned. So we're going into the three divisions, industrial data solutions, industrial network technologies, and new industries. And with this change, we see that we have about 40 positions that are being redundant, primarily when we merge these sales and marketing organizations, but also some high-level management positions that we see that we can do without. So this will translate to about 40 million savings And as you might remember, we did a restructuring program also in Q2, where we took out some 40 million in one year savings. So accumulated, we will have saved 80 million in cost savings going forward. And under the program from Q2, we're quite happy with that impact. We see the full impact that we should already now. And the impact from this reorganization, we will have full impact from 1st of January. in 2025. As a result of this, we also see that we're going to take restructuring cost of some 25 million in Q4. And we need to get back to the exact number, but there will be in that range. So with divestment of the MB Connect line business and with acquisition of peak systems, we should be just above 1,100 employees when we go into 2025. Then we have the earnings per share, 2.51 SEC. And maybe worth mentioning compared to previous years, we have now pretty massive interest costs given the big acquisition of Reliance. So we have net financials of 45 million and the interest costs now being 36 out of that. Other than that, not so much interesting to say around this. The cash flow from operations, 205 million, a number that we're very happy with. We see the best cash flow, maybe the best cash flow ever, actually. And Staffan mentioned that we're doing inventory reductions. Despite the lower sales, we managed to reduce inventory with some 130 million since April. And now in the quarter, we do a reduction of some 79 million in inventory, which we're happy that we can do. And we expect to see a continued decline throughout Q4 and into 2025. Maybe not in the same pace as we've seen now, but we should see further reductions for the coming quarters as well. So all in all, with a cash flow of 205 million, we see a cash conversion of almost 100%. Not possible to sustain forever, but good that we can, when business is being a bit softer, we can do these adjustments. Then the balance sheet, looking at the net depth, we have almost 2.6 billion in net depth. We see that we're coming down some 200 million from Q2, which is good to see. And in the quarter on net depth adjusted EBITDA as reported of 2.79. And as many like to see without the IFRS 16 impact, we're at 2.72. It's a little bit on the high side and with the acquisition of peak systems, we will take this up a little bit more. And I think with this, it's important to say that we are aware that we are on the high side. We feel quite comfortable with this since we know that we're going to reduce this during 2025 and work on integrating the companies and stay a little bit more cautious to acquisitions for the coming quarters at least. And then just to summarize, We have three big news in the report. So the first point I want to make is that despite the challenging markets and continued restocking, we see good gross margins, good cost control resulting in quite okay results. Staffan presented a new organization that will kick in first of January. We think that will be very positive to get even better focus on our customers and grouping the offers together to serve the customers in the right way. And we're getting a full accountability all the way through the profit and loss with our division heads. And then finally, the acquisition of peak system that will strengthen the new division, new industries, and also the divestment of MB Connect line that we expect to close now any day. With that, I'd like to hand over to operator for some questions.

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