Heidelberger Druckmaschinen Aktiengesellschaft (HDD) Earnings Call Transcript

Ladies and gentlemen, I'd like to welcome you to our analyst investor call on the occasion of the publication of our key figures for the first half of FY 2020/'21 this morning. Together with my colleague, Marcus Wassenberg, our CFO, I will be presenting the most important developments at Heidelberg and the quarterly and half year figures. Afterwards, we will be able to answer any questions you may have. In the second quarter, we continued to pursue the course set with our transformation consistently and at high speed. 6 months after the start of the program, we would like to draw an initial interim conclusion so much in advance. What we said on the occasion of the publication of the Q1 figures still applies, we deliver what we promised. This is clearly demonstrated by the success of the implementation and the key figures for the first half of the year. Before we go into detail about the figures, data and facts, I would like to make the following points that are particularly important to us. First, we have successfully coped with the massive challenges posed by the COVID-19 pandemic to date and achieved a positive EBITDA result in the first half of the year above the previous year's level. The second quarter has brought noticeable improvements compared to the first quarter, and the market is gradually returning. We are still below the previous year in terms of incoming orders and sales. But we have bottomed out. We are now seeing an upward trend especially in the machinery business. In China, we have almost returned to the precrisis level in terms of demand and sales. Obviously, we did the right things early on to remain stable in the crisis. In addition to short-term measures, our transformation program made a significant contribution to this. Our program helps us to manage this challenging and volatile environment. Second, our program delivers, we are fully on schedule. We have accelerated our financial stabilization and balance sheet improvement. With our program, we achieved positive effects, not only in the short term but above all in the long term. Half a year after the start of the program, over 90% of the sustainable saving effects in fiscal year '22/'23 have already been achieved. We have a clear plan -- third, we have a clear plan for the future. We are expanding our potential in our strong core business and will then also profit overproportional in the medium-term from the markets that pick up again. The expansion of the profitable core business is the second important cornerstone of our transformation alongside financial stabilization. In our core business, we have, by no means exhausted our market opportunities. As the global market leader, we will systematically consequently leverage our potential. And fourth, we are going forward with strength and confidence. The environment remains challenging with COVID 19, but positive customer signal make us confident. Our virtually conducted innovation week in October was a complete success. With a total of around 4,000 registered participants, the number of contacts and leads was higher than at drupa 2016. We generated more leads than ever. And we were able to book the first substantial orders worth millions, especially from Far East online. For us, this success is also clear proof that our new innovative format is the right way to address our customers. I come to the first half year report. The aim of our program is to increase Heidelberg's financial stability and profitability in the long term. Our message today is still we deliver what we promise. We said we are drastically reducing our debt and our interest burden, and we did. We said we are improving our liquidity, and we did. We said we are streamlining our structures, improving our cost base and aligning ourselves to the market with an agile organization, we are fully committed to this. We said we are concentrating on our profitable core business and on the needs of our customers, and that is already paying off. To this end, we have implemented a large number of measures in the first 6 months since the program was launched. Here are a few more highlights. A key event in May was the agreement of the reconciliation of interest and social plan with the employee representatives for the planned reduction of around 1,600 jobs worldwide. We are currently in the middle of the implementation process and can now say almost exactly what effects we will achieve and when. We work together with the Works Council in a spirit of trust and hand-in-hand. This cannot be taken for granted. And for us, it's an outstanding example of social partnership in action. A further milestone was the early repayment of the high-yield bond in the amount of EUR 150 million. We announced the move at the beginning of August and implemented it as planned on September 9. This will save us interest of EUR 12 million per annum. The further step in our focus on core business was the sale of Gallus to the Swiss packaging group benpac in July for a purchase price of around 100 -- EUR 120 million. As planned, the transaction is expected to be closed within the next week before the end of this calendar year. Then we will also be able to post the expected earnings in the mid double-digit million euro range. The sale of CERM at the end of July enabled us to realize proceeds of EUR 10 million. Marcus Wassenberg, our CFO, will now present and explain the key figures for the first half of the second quarter. Marcus, please.

Thank you, Rainer, and welcome, ladies and gentlemen also from my side. Cannot be stressed enough these days. Thanks to our successful program, we have put Heidelberg back on a firm, financially secure foundation. It is not only the basis and the driver in order to bring Heidelberg in the medium-term to lasting profitability with double-digit margin, it helps us also now massively on the COVID-19 crisis. Naturally, the key figures proved this. Even though incoming orders and sales are about 1/3 below previous year, EBITDA, excluding restructuring result, is approximately 40% higher year-on-year. In the second quarter, there were clear signs of recovery in the market when coming orders and sales significantly reducing the gap to previous year. The order backlog increased accordingly. Short-term effects were used to compensate for the missing margin from the lower volume. And I will come to this in a minute. Due to the liquidation of security, the sale of CERM, as Rainer explained, and the reduction of net working capital, free cash flow improved considerably compared to the previous year, but it's still a negative at EUR 52 million. In perspective, it should turn positive again. More on this again later. Leverage ratio was 1.2%, is historically good ratio for Heidelberg. Brief now -- brief look now on the balance sheet shows how the assets and financial situation have stabilized as a result of our program. As a result of the reduction in net working capital, the early repayment of the high-yield bond and the restructuring of our company pension scheme, net financial debt after 6 months is at a low level of just over EUR 150 million in pension. Provision has not risen further in spite of a continuously falling discount rate. Only the equity situation remains unsatisfactory. And it is therefore naturally at the top of our agenda. The aim of our profitability measures is to strengthen the ratio in the midterm into a range of around 20%. Due to COVID-19, we are significantly below previous year, and the first quarter incoming orders were more than 40% below the previous year, but we are feeling a clear recovery. In Q2, the gap has narrowed to 20%. This improvement is due in particular to significantly higher order for sheetfed offset prices. Our customers increasingly learned how to handle the new situation and are investing again. Incoming orders picked up significantly in Q2 by 50% as compared to quarter 1. The comparison of incoming orders from the low point in May to September even shows an increase of 85%. And this level was also reached in October despite worsening pandemic as you now. In addition to other markets, demand developed positively, especially in the important individual market of China. In the first quarter, incoming orders were still 50% below previous year; in the second quarter, only 8%. And that thus almost back to pre-crisis levels. Thanks to our excellent positioning in China with local production and strong sales and service team, we were able to benefit considerably from the rapid market recovery. COVID-19 has cost us significant triple-digit million euro amount and has set us back to at least 1 year on the road to achieving our original goals. But we have our sights firmly set on these goals and our programs, putting the right levers in place to achieve them. EBITDA for the first half of the year is positive at EUR 97 million. And it is higher actually than the previous year with EUR 69 million. Our program made a significant contribution to this positive result. With targeted measures, we have succeeded in compensating for the massive corona-related slump in sales and earnings of approximately EUR 160 million, largely due to cost savings from the program amounting to EUR 45 million, the reorganization of the German pension scheme with an effect of around about EUR 73 million, the sale of firm, as Rainer explained with earnings of approximately EUR 8 million. And in addition, short-term countermeasures such as short-term work and comparable international programs amounting to around about EUR 70 million. We are fully on schedule with our measures and even exceed our saving targets in the long term. We aim to achieve savings of at least EUR 140 million by financial year '22/'23 with the measures already implemented and those plans amounting to around about EUR 170 million. We plan to exceed this target. We will already exceed this year's target in financial year 2021 with savings of approximately EUR 80 million. Around 2/3 of the cost reduction in this financial year is sustainable, i.e., we will save this cost annually in the future. The next 2 financial years, we will successfully increase the share. In financial year 2023 according to account planning, more than 90% of the measures will already be sustainable. A large part of this is savings and personnel costs. Our staff reductions are already having an effect this year. More on this in a minute. In this way, we will earn money much earlier in the future. The operating breakeven point and EBIT should fall to around EUR 1.9 billion in financial year '22/'23. We are thus above optimally positioned to benefit from markets that are picking up again and to rapidly and significantly increase our profitability. The Greek staff reductions are the biggest lever for cost savings. We are making good progress in implementing them. The downsizing program is complete. The planned reduction of around 1,600 jobs have been fully specified and will be implemented successfully. We know almost exactly how many jobs will be cut in which quarter and what effect this will have. Thanks to the rapid implementation, we are already saving EUR 46 million in personnel costs this financial year. By financial year 2023, we will achieve gross savings of around about EUR 120 million. We achieved this with structurally intelligent and socially responsible staff reductions, primarily through part-time work for older employees and the establishment of transfer companies. Of course, future increases in wages and salary will partially offset these savings. The program has therefore been designed to enable us to achieve our profitability target despite general cost increases. An important milestone in improving our sustainable financial stability was the early repayment of EUR 150 million in high-yield bonds. This will reduce our interest cost by EUR 12 million annually. About 2/3 of our revolving credit facility is undrawn and is currently mostly down on a noncash basis. Maturity profile on our liabilities are favorable. We do not have major maturities in the short term. Looking at the balance sheet, almost all of the debt is based on pensions obligations, totaling almost EUR 1 billion. Nevertheless, changes in the provision due to changes in the discount rate or the discontinuation of possibility to offset the provision against trust assets has no impact on the annual payments to pensions recipient. Based on Heidelberg's demographic development, pension payments will also increase gradually in the future up to financial year '32, '35 to EUR 40 million per annum, after which they will fall again. This means that the annual disbursements amount to only 3% to 4% in relation to the total liability, which is a favorable form of internal financing. It is also important for me to look at the effect of the retransfer of funds from the Heidelberg Pension Trust in March. Heidelberg will have to pay the pension from cash flow in future. However, the loss of income from pension assets is more than compensated by the interest cost saved from the early redemption of the high-yield bond, and the improved profitability resulting from restructuring. In future, we will save EUR 20 million in cash interest by the financial year of '22/'23. With the funds from the pension fund, we can handle the restructuring from our own resources. It is already fully financed. With the help of the program, we will significantly increase on profitability to over 10% EBITDA margin in fiscal year '22/'23. We are thus laying the foundation for achieving a turnaround in free cash flow. Free cash flow should be clearly positive again from FY '22/'23 onwards, despite the increased pension payments. The bottom line is that using the funds from the pension fund pays off for Heidelberg and helps to make the company fit for the future. With this, I give it back to you now, Rainer.

Marcus, thank you very much. I come now to the market environment development of our core business. Besides financial stabilization, the expansion of our strong core business is the second cornerstone of our transformation. Here too, we are well on track. We have completely aligned our structures and processes to our core business. Here, it will be a matter of exploiting our potential in a difficult market environment, especially when we are strong and demand is high in -- where we are strong and demand is high in packaging, new business models in the growth market of China. In packaging, we want to expand our strong market position significantly. With new business models, we are meeting the growing demand for pay-per-use offerings. We are strengthening our presence in the growth market of China and are consistently and consequently exploiting our value creation potential. As the global market leader, we will systematically leverage our potential. And benefit overproportional from our clear focus in the markets continue to pick up. Example, packaging. Here we can appear confident. We are the worldwide #1 in the packaging market. Packaging already accounts for more than half of our machine sales. We want to and will continue to increase this share in future. There is still a lot of potential for us in the contract business and the further digital transformation. With our differentiated life cycle and subscription offerings, we are very well positioned to meet specific customer needs. The share of contract business and therefore, reoccurring revenue has grown significantly since its introduction in 2018 and will continue to rise from 5% in 2018 to 8% in 2020 and around 11% in 2021. The added value of such offers is particularly evident to our customers in the current crisis. And Heidelberg will benefit from a much more stable sales trend. In the Chinese market, which is so important to us, demand has recently returned to the previous year's level, not only during the crisis but also fastest and furthest. The long-term prospects are also very positive. China still is the market with the highest growth worldwide. We are the market leader here with a share of 50% and intend to consolidate our strong position. We will, therefore, systematically and consequently expand our production footprint there. Our aim is to further increase our margins by increasing the share of value-added there. On the basis of greater financial stability and a focus on our profitable core business, we are now taking the next step as planned new growth. In order to leverage our growth potential, we are pursuing a dual-track approach. On the one hand, we are specifically aiming to further exploit our potential in our core business and grow it profitably. On the other hand, we will be intensively engaged in identifying which new business areas could be useful and worthwhile for us. To this end, we have now launched a strategy process that begins with an intensive analysis phase. In the strategy process, we will focus on our strengths. We will only tackle what we can handle where market demand is realistic and where we can earn good money quite quick. We successfully launched activities such as print electronics and e-mobility, respected our wall boxes, as you may know. We will also play a role in our strategic considerations. The first results should be available by the end of the year. I am coming to the outlook. As far as the future is concerned, we see ourselves well prepared. We are going forward, strengthened and look forward with confidence. Our program works. We have planned the detailed measures until 2023 and will implement them successfully. Our core markets are clearly defined and fundamentally sound. Experts confirm the overall market will have fully recovered from the COVID-19 episodes by 2024. Even our core market segment, packaging, has not collapsed at all. On the contrary, it has boomed during the crisis and will continue to grow. Of course, the current infection -- the current raising infection figures worldwide are worrying us, and we cannot fully assess the further developments and effects of COVID-19. Availability of vaccination soon make some hope, and we are getting positive signals from our customers. They are finding their way around the new normal and are also planning to invest again and move on with their lives. Against this background, our outlook for the current fiscal year remains unchanged despite the uncertainties caused by COVID-19. Thank you very much for your attention. We are ready for your questions, please.

We'll take our first question from Peter Rothenaicher from Baader Bank in Munich.

Firstly, on your temporary savings you experienced in the second quarter. So you mentioned, I think, for the full year, you had considerable savings here from short-term work, et cetera. What is the situation now going into the third quarter? To what extent are you still proceeding with the short-term work? And compared to the savings in the second quarter, what can we expect here for the third quarter?

Yes. Thank you for that question. So basically, the effect of short-term work, as you know, was around about EUR 70 million, out of which, like EUR 6 million do come from abroad and the rest basically comes from Germany. For Q2, actually, since this was a holiday month, it was round about EUR 25 million. And we're looking now at a reduction of short-term work to the degree of round about 50%. So in my opinion, that would mean that we would see an effect of around about EUR 20 million in short-term work for the coming half year.

Okay. And then your subscription business, can you comment on this? Did you further proceed with the full spectrum also with subscription for new equipment? Or is it only on the service and supply side?

Subscription of the whole contract business in all subsets is a very important part of our core business and is growing. As I mentioned, it has grown, will grow. Of course, the focus is more on subscription smart, so at the moment without machines. But we also did some very favorable deals, including machines as well. And we will definitely continue to do so as long as we can secure financing externally. It will grow. It is very profitable, and it's definitely the future business model.

Is there anything to report with regard to external financing?

Marcus?

We're still talking to people, and we'll continue to do so and keep you updated once we have reached an agreement.

And we take our next question from Richard Schramm from HSBC.

You mentioned that China is a big support in recovery here. Can you maybe elaborate a bit more on where the situation is in China? Is it really already fully back to pre-crisis level? And what is the share in your current orders and sales here? And second point, you mentioned that you see a stabilization of the new machine business. Is this from the, let's say, margin quality of these orders are satisfying because obviously, this also will relate to large parts to China and the signals are that there, the machines are usually not so sophisticated and, therefore, not so -- yes, strong margin than in other regions, especially in Europe, for example.

Mr. Schramm, thank you for your question. China is almost back to the precrisis level in regards of our business, I would say, around about 95% in sales and order intake. The print production volume of our customer is already above pre-corona level. So the overall economy is developing positively. Basically, the loss in export business is overcompensated in domestic business. The machinery we are producing in China is around about 80% for China. So a lot of the business is done there, and it is a very, very profitable machine business. The contribution margin of those machines is above 30%. So it is a very profitable machinery business. Where it is always still a challenge in China is the consumable and service business because there's always somebody who does it for less in China, as we all know. But the machinery cannot be bought somewhere else. So there we have a very, very good business in China. And looking forward, we will increasing our local content in China and improving the cost situation significantly. To give you an idea, typically, the cost savings, the improvement is 25% to 29% versus producing in Germany. So there is a significant improvement. Of course, there's also tax and transportation, everything included, but that's basically the gain in profitability. So we are increasing the local content and improving the Chinese business very consequently, also by expanding the portfolio we are making in China as well. Does that answer the question?