REACT Group PLC (REAT) Earnings Call Transcript

Good afternoon, and welcome to the REACT Group plc Results for the year ending September 2022 investor presentation. [Operator Instructions] The company may not be in a position to answer every question received during the meeting itself. However, the company will review all questions submitted today and publish responses where it is appropriate to do so. Before we begin, I would like to submit the following poll. I would now like to hand you over to CEO, Shaun Doak. Good afternoon to you.

Thank you, Alex. Thank you, and thanks for everyone joining us today. So we've got myself, Shaun Doak, I'm CEO of the group. We've got Andrea Pankhurst, our CFO of the group; and we've got Mark Braund, our Executive Chair on the call as well. So let's just start off by doing a deeper dive into what the group is all about, and we'll have a look at the overview, please, Alex. Thank you very much. Okay. So REACT Group carry out specialist contract cleaning where ultimately, we're focused on nondiscretionary requirements were U.K. wise, typically, looking after complex demands over a nationwide fulfillment criteria. The business of the group now is -- we've got 3 elements of the business. Strategy is focused on building out long-term contracted work, both organically and through selected M&A. The recurring nature of the business will give us a more predictable model moving forward. As I said, we've got 3 segments. So we've got the commercial window and cladding cleaning to begin with. That's generally regular recurring revenue. So typically, cleans can be carried out daily, weekly or monthly at worst, typically high margin, typically north of 40%, long-term commitments from the clients and incredibly sticky customers. That work is predominantly carried out by the LaddersFree business, which is the business that we recently acquired back in May of '22. Next, we've got the hygiene and maintenance division. That is delivered through the Fidelis business, which is based in Birmingham. Very strong within the school, university and industrial space. Again, recurring revenue, typical commitments from the clients are 3, 5 and 7-year commitments. And then last but not least, we've got the emergency and decontamination side, which is carried out through the REACT specialist cleaning division. That business is typically split into 3 segments, the first segment being contract maintenance, which is a little bit like an example, a deep cleaning at the hospital. So we're on site all year round. And we also do a lot in that space in the rail sector, just ensuring that the carriages have been clean and the return to the quality and the standards that they once were when they left the manufacturing plants. Next, we've got the Contract Reactive, which is framework agreements work with a number of clients within the judiciary sector and that could be anything from a dirty process all the way through to a bodily fluid clean of either a transportation vehicle or a prison cell. And then the final segment to that business is the ad hoc project defined work, so something like a fly-tip, high-level clean and so on and so forth. So look, on the back of COVID-19, cleanliness and hygiene is clearly run much higher in social conscience, and that's raised the demand for a more consistent and reliable solution provider, someone capable of delivering anywhere in the U.K., and that is very much in the REACT Group wheelhouse across all 3 of the businesses. We believe there's scope to continue what is a significant expansion in what is a sizable and fragmented specialist cleaner market. So just moving on to the customers, please, Alex. Okay. So this will be a new one. We've not really put any customer logos up on this platform before. But we work with a number of blue chips, a number of Tier 1 customers and some large FM management companies here in the U.K. Clearly, we operate across a very diverse range of market sectors. And typically, the resilient markets where the requirements for our services is nondiscretionary. So it just gives you just a handful there of logos of some of the customers we work with. And if we actually look at material spend customers, we've taken it from 12 months prior to this point from 238 to 350 as we stand today, but we've actually got across the board over 1,000 customers. It's the 350 that are material spend customers. So I'm going to pass you over now to Andrea. She will give you an overview of the performance summary and then the segmental analysis.

Okay. Thank you, Shaun. So the graph that you can see on the screen are showing our progress over the last 5 financial years. Obviously, I'm going to focus on our most recent figures for up to September '22, so our FY '22. So year-on-year FY '22 compared to FY '21, our revenue is up 78%. Our gross profit is up 38%. So the reasons for those increases are -- the mixture of reasons. One of them is clearly the acquisition of LaddersFree and also the fact that last year in FY '21, we just have 6 months of Fidelis' results in there, whereas now we have 12 months. But aside from that, on a like-for-like basis, we have got underlying organic growth across the group of 17%. So that's -- all those statistics combined, all those impacts are the reason for the changes year-on-year. Our average gross margin has decreased from just over 30% to just over 23%. The reason for this is, again, not a simple one. There's lots of factors here, but the main one really is that the mix of work that's in the business in FY '22. So with a full year of Fidelis with its long-term contracts, those contracts come with lower margins. So the mix of having a full year of those lower margins has impacted the average group margin. LaddersFree, as Shaun has previously said, is a higher-margin business. This time next year when there's a full year of LaddersFree there, I will anticipate that, that average margin will be going back up again. We've previously stated that our sort of target group margin is in the high 20s or low 30%. And I think that, that still holds true that that's what we're aiming for. Our EBITDA for the year was GBP 1 million, just under GBP 1 million, and that was what we were expecting to do. So we're pleased with that figure. So I think the only other point I want to make at this -- on this slide really is that a stated strategy of ours previously has been to increase our level or proportion of recurring revenue. Our recurring revenue proportion at the end of FY '22 was 83%. It's a bit higher now already during FY '23. It's now higher than 85%. And we're happy with that level, and that's really where we anticipate it staying. Can we move on to the next slide, please? Okay. Thank you. So we've previously talked about the different segments that we report our -- how we report our figures and Shaun has already referred to these. So contract maintenance, these are regular contracts. We have contracts that last 6 months. We have some contracts that last up to 7 years. So that revenue is predictable. We know it's coming in over a certain time scale, and that type of revenue is what we've been working hard to increase. So by the acquisition of Fidelis and LaddersFree as well as organic growth within the existing business, you can see that, that's the biggest increase on those bar graphs. Secondly, our Contract Reactive work. This is where we have framework agreements where we get called out to customers to provide a defined set of services at defined prices. This work is less predictable because we never know how many times, how often, we're going to get called out. But we've been doing it for quite a long time. So we do know there is a pattern, and we do keep getting called out. This work, it did soften during the end of FY '21 and the beginning of FY '22. This is partly because customers really weren't spending so much on anything discretionary post-COVID. And so there was less demand for a while. During the second half of FY '22, that demand has picked back up again and you can see year-on-year, there's a slight increase there. Ad hoc work. So last year or the year before when we were doing this, this presentation, we were talking a lot about COVID. COVID was generating at that time, a lot of our ad hoc work. Obviously, that work -- that COVID-related work no longer exists. But as you can see, we've held our own in the ad hoc segment, we've replaced that COVID work with alternate work and demand is still strong in ad hoc as well. So I think that's all I've got to say on the figures, and I'll hand you back to Shaun.

Andrea, thank you. So just moving on to the year that was really 2022. We've had good organic revenue growth, which is clearly being augmented by the successful acquisition of LaddersFree. We've had some strong sales performance, a number of contract wins there, once again, demonstrated in REACT Group's organic growth credentials. As Andrea said earlier, we've had some strong growth in the contract maintenance business, which has improved the mix. And our long-term recurring revenue run rate now is just north of 85%, which is fantastic. The reactive services, Andrea touched on it earlier. We did have some challenges and a slowdown during the first 9 months of this year and that has begun to rebalance. We've seen that return to normal levels and combine that with the success of winning the longer-term Fidelis contract. It did create a temporary downward pressure on the margins, but they will rebalance and they are beginning to trend upwards, which is, again, great. The acquisition, the integration of LaddersFree. It's gone fantastic, a great team, a small team headed up by Jason and Justin Korinek, who are the founders, very entrepreneurial guys, still involved in the business as consultants, working very well with the rest of the group. The team is very excited and very much engaged to what the future has in store and the ways in which we want to grow the business. And early signs of cross-selling we've had success there. You would have seen the fourth period announcement of the multiyear contract with GBP 800,000 and that was for 350 locations for a well-known fast food outlet here in the U.K. So just moving on, please, Alex to the next slide. Thank you very much. So just on strategy, we've stood here before for a few years, and we've mapped out the key components of our strategy, and that is to become the leading specialist cleaner business here in the U.K. We based it a year ago, our strategy that is on 4 key components. That was to scale through organic growth and selected acquisitions. We want to strengthen our relationships with customers and cross-sell. The third was to focus on markets where the REACT Group have clear differentiation and access to higher margins. And the fourth part of it was to strengthen the recurring revenue streams through incremental long-term contracts. In the blue there, just on the slides, you'll see the milestones that we've achieved throughout 2022, 78% growth, 17% organic, sorry. We hired 2 senior sales people into the business. Chris Ryan joined to head up the Fidelis business' sales manager and we brought in Sam Haywood who now heads up the sales team across group as group sales director. They've made a material impacts to the business since joining. We've had multiple contract wins and we've grown the recurring revenue streams as we said earlier on in the presentation. With regard to strengthen relationships, we continue to expanding the business that we do with a number of Tier 1s and our FM businesses. Hitachi Rail being one of them. We've got new sites online, and that's a mix of the 3 segments. We're doing a lot more with the FM businesses and the contract that we secured back in '21 of April, that continues to have an upward trend in the work that we're securing with that business. ExtraCare, prime example, we've taken the spends and multiply that by 5, basically, where we are today at a run rate. So proof is in the pudding we can do that. With regards to retail revenue, we've increased the recurring revenue. We appreciate that the margins need more work, as we mentioned earlier. With regard to the LaddersFree acquisition, we see it as very much being transformational. We've got clear differentiation there, access to high margins, incredibly sticky customers and a really motivated team. And then last but not least, we've grown the recurring revenue from circa 83% to an exit run rate now of north of 85%. So that's what we've achieved throughout the year and that was against our strategy. Just moving on, please, to the acquisition slide, Alex, thank you. So just to summarize, LaddersFree. So they were established in 2002. They are one of the U.K.'s largest nationwide commercial window cleaning businesses. They are highly profitable. They are cash generating, recurring revenues and lower working capital. They've got a very competitive ecosystem of over 300 local service member partners. I don't want you to think that they are mom-and-pop shops partners. They are -- in some instances, they have a fleet of 5 or 10 vans themselves. So they are very professional, they are trained, audited, certified in exactly the same way as they would be if they were employed directly. And obviously, high-quality focus and rigorous safety standards included in there. As I said earlier in the presentation, the customers are very sticky attracted by the quality, and performance, and the low cost specially multi-location and nationwide customers. They've grown the business prior to acquisition through very modest marketing and the strategy very much evolves around applying the group's sales and marketing capability and that will continue to drive the strong organic growth in what is a unique, high-value, high-margin and cash-generative business. And just before I move on from next slide, if you just look at the customer segmentation, gives you an overview really of those customers. I just want to -- if you look at the churn, the churn is at 0%, they've not lost any national customers in 5 or 6 years and the same for the regional facilities management businesses. And the Nationals and the FMs are perfect sectors that we've done so well with REACT specialist cleaning and Fidelis as we grow in the business. So it is right in our sweet spot to really grow the LaddersFree business. So just moving on to group outlook, please. So we've had a strong finish to the year end in September '22. We've got momentum continuing into this year. As I said, the emergency reactive business is returning to strength and the long-term contracts won and mobilized by Fidelis last financial year and now delivering revenue as expected. The LaddersFree acquisition expected to continue making a material and growing contribution to the group's performance. The integration couldn't have gone any back to, like I said, values work culture and dedication very much aligned to the rest of the group. And revenues and margins have been strong since we completed the acquisition in May of '22. And then just to wrap things up on summary, please on the next slide, Alex, thank you. We remain strategically focused on building out the long-term recurring revenue streams in the nondiscretionary specialist markets, as I said earlier. We've got a track record of delivering double-digit organic growth alongside strategically important acquisitions, and we believe the LaddersFree acquisition is not just transformational, it's earnings enhancing as well. So we believe, in summary, that we're well placed to build scale in both market cap and earnings. Thank you.

Shaun and Andrea, thank you very much indeed for your presentation this afternoon. And if I may, I will just bring your cameras back on. [Operator Instructions] Shaun, Andrea and Mark, as you can see, we have received a number of questions throughout today's presentation. And thank you to investors for submitting their questions. Mark, if I could just hand over to you to go through the Q&A tab, read out the questions and give responses where appropriate to do so, and I'll pick up from you at the end.

That's lovely. Thank you very much, Alex, and thank you to those of you who have submitted questions. So as we've done before, I'll just sort of coordinate it. I'll give Shaun and Andrea the opportunity to think what their answers are. We have 5 pre-submitted questions. Unfortunately, I don't have the names of the people that submitted them. So forgive me for not mentioning. The first one here is, I'll read it, with LaddersFree joining the REACT Group last year, can you explain how the cross-selling works? Is there a specific -- is there a team specifically doing this? At this early stage, has there been any significant results in cross-selling. Shaun?

Okay. Thank you, Mark. Yes. So I guess there's 2 elements in play here. There is the strategic and there is the tactical. So tactically, we have had results already. The material contract that we announced in those periods is a prime example. And there's a lot of smaller contract wins that we've had underneath that, that haven't been announceable, GBP 50,000 to a retail outlet -- furniture retail outlet is a prime example that we recently secured margins typically north of 40%. And from a strategic point of view, we just need to take a step back here and build out a map for what that longer-term piece looks like.

Yes, indeed. Thank you, Shaun. So often I see companies and sales leaders, and I'm a salesperson myself, talking about cross-selling being key to things, and then you never see it happen. But I think it is worth commenting briefly, Shaun, this is not just about LaddersFree. We've done it when we acquired Fidelis as well. I mean, I guess, situations like ExtraCare was a prime example where a customer of Fidelis was spending about GBP 100,000 a year. And combined together as a group, you managed to arrive at GBP 1 million a year contract for 5 years. That's the kind of nature of how we operate, isn't it, in terms of cross-selling.

Yes, very much so, and like I said earlier, Mark, there are the larger opportunities. There's a lot of smaller opportunities that we've not been able to announce that just highlights the cross-sell and the cross group. And I think the sales team are very -- we have a very tight sales team. We have the weekly marketing calls where very much we pivot and we change our strategy on a weekly basis. That works very well. So we can change tacts as and when we need to. We know what works. We know about -- prime example on the marketing call last week, the cadence of e-mails that we sent out and followed up, we had a call to action rate of about 68%, which is just unheard of in that kind of arena. So we're getting that right. We're setting things up, and all credit to the sales team. They're securing contracts. So everything is going well and that's proven.

Brilliant. Next question is for you as well, Shaun. We announced back in '21 a significant contract with a very large FM business. And the question, I'm paraphrasing actually. The question is, is the company in all the FM sites yet? Are they satisfied with the service? So effectively, how are we progressing with that particular agreement?

Yes. So good question. It's progressing well. There were some challenges, and we shared those challenges prior with -- we just have to hold the customers' toes to the fire to unpick the incumbent relationships. You've got, in some instance, relationships that had been there for 10, 12 years. And it was that our customers' systems that initially were letting them down. We have made changes to that. I'm personally engaging with the country manager there on a regular basis. We have a quarterly face-to-face meeting and then monthly call. And that -- an upward trend there. There's still work to do, but we're working in unison together, i.e., also in the customer to make that so that spend filter through.

Brilliant. Thank you. Next one, another pre-submitted question. Andrea and Shaun, you might want to comment on this. It says, accepting that profit margins are financially sensitive information, can REACT indicate whether the profit margin for the company will be higher or lower for full year ending September 2023 than the full year '22 of 23.8%? you are on mute, Andrea.

Apologies about that. Yes, I think I've probably covered this point already. It's, I think, with the higher-margin LaddersFree with a full year next year in the figures. I think that margin -- I anticipate that margin going back up. We've got a goal of having an average group margin of around about high 20s, 30%. I'm hoping that we'll be close or achieving that sort of level this time next year.

Brilliant. I think it's also true to say that recovery on the reactive side of the business, as was explained earlier, we'll also add incremental margin to that. Yes. Although we should also add the fact that our search for long-term contracts that are in resilient markets, such as the one we're involved with them with Fidelis, they have a value into their own, but they are at lower margin. So we're compromising a little bit, but we are making up for it with the 2 actions on LaddersFree and on REACT. Brilliant. Thank you. Okay. So the next 2 are actually 2 that I think I should answer, but please feel free to comment if you have anything to add guys. The first one says, there's been an unusually high -- sorry, it's been unusually large number of shares traded recently. They appear to have been sales. Are you able to comment on whether you know who has been selling as there has been -- there hasn't been any holdings [ RS ] has disclosed to the market. What it was, there was a Tier 1 recently, Jason and Justin Korinek, when we acquired the business, it was at a torturous time in the market. It was in -- we were negotiating in April and obviously made the acquisition in May. And this is immediately preceding the invasion by Russia and Ukraine and all sorts of things going on. We were fortunate enough to have some great investors that backed that acquisition but clearly, it was a tough time. And Justin and Jason offered under certain conditions that instead of taking GBP 0.5 million worth of shares, they would take an additional GBP 0.5 million, and there was GBP 1 million in total, but they would like the ability to be able to convert that back to cash in a relatively short period of time. So as per the announcement about the deal, Jason and Justin took GBP 1 million worth of shares, half of which had a hard lock in for just 6 months and then an orderly market for a further 12. And is those -- that first tranche that has since been sold in the market. Now elements sells, they've been buys actually. They were bid for their shares through an orderly market through our broker Singer's by an institution. And we do know who it is, but it's not -- we're not, it's not for us to actually say. It hasn't tripped them in terms of needing to issue another Tier1, but I can safely say to you that there's an institution that was actively buying low shares and that's an explanation. Any of the other share trades that have gone on, we're unaware of. They're certainly not institutions that we're aware of and certainly haven't tripped up any other Tier 1 statements. I suspect, therefore, they're probably just a combination of retail trading. I hope that answers the question for everybody. The second question that I'm going to answer is the share price of the company has continued to disappoint despite the good news flow that has been given to the market. Has the company thought about how it can reverse this trend? Clearly, paying on the listed market, we're always aware of our share price. And clearly, we want to see it go up rather than go down. What we do have is a -- for a company of our size, a very unusually high quality of institutional investors, and there are a couple more underneath, the need to recognize there that we are aware of. But if you just look at the share register, for those people that hold over 3%, you'll see some good quality names. These people are all very supportive and very strong holders, and we are constantly in touch with them. As we are indeed with the retail market. We put out news when it's real. And when it's there, we don't put anything out that isn't -- doesn't meet the standard, and we obviously make ourselves available through this platform and the platform that's available to us via [ Mellon ]. So I think we've done what we can. I think it's really down to be frank, individual retail investors. That's where the activity takes place. What we as a management team can do is focus on the fundamentals. We've taken this business from 5 years ago or 4 years ago, a profits or revenues of about GBP 3.5 million and losing about GBP 600,000 a year to now this last year, obviously, nearly GBP 14 million of revenue, GBP 1 million of profit, and we actually have 2/3s of our business is cash generative. So we've just got to focus on the fundamentals. And I believe that as people take notice of those fundamentals, I hope that maybe some of the day trading will be a lead and people will buy the shares and hold them for their long-term value. So that, I hope, answers that one. I'm now going to move into the questions that have been asked during the session. So Mark [indiscernible] has asked a question. It says the Contract Reactive and ad hoc segments both achieved record half year revenues in 2022 H2. However, this came at a high cost with gross margins in both cases, falling below their half year, below half their normal level and both making sizable losses after admin expenses. What has gone wrong in these segments? And what are you doing to fix it? I think some of the conclusions drawn in that question are actually correct. Basically, I think we have explained for the tail-end of '21 and going into '22, the market due to both COVID and post-COVID brought about a number of challenges there. I think that -- again, maybe I should pass it to you, Shaun, but for us, that business is very much the sharp end of our spear, isn't it? We get a lot of traction with customers in terms of breaking in because we're very, very good at what we do as we've seen it can sought to do. And then it's a matter of landing and expanding. How would you answer that question?

Yes, I think you are familiar very well. I think, look, at the end of the day, the services that we do in that segment is how we get our force majeure. We can react very quickly. The standards are very strong, anything to do we're cleaning, we can do. I think we're very unique in that proposition. Our clients appreciate and respect what we bring to the table and that often through the sales and marketing activity, increases -- cut through with our customer increases revenue, increases margin. So yes, I think you answered it, fine.

Great.

So I also just chip in as well, Mark, to add some context to that. The segmental analysis in the annual report, the line that is shown as operating profit. That includes all acquisition-related costs and tax in that figure. We as a business much more focused on our EBITDA, because for us, that represents the underlying trading of the business, separate to other M&A activities. So I think maybe that's what Mark G is referring to, and I hope that explains it. Our adjusted EBITDA, taking out the acquisition activity is the figure of GBP 1 million, and that's the one that we are focused on.

That's great. Thank you very much, both of you. Okay. Moving on, a quick question from Michael H. How is the pest control business going? It's not a core business of ours. We may tag it in as something like subcontract into an overall contractual, but it's not a core business of ours yet. Is it?

Yes. I don't know whether this is harking back to before our time, Mark and Andrea. So we did have the environmental business, which I think pest was part of that. So since we all got involved in the business, all 3 of us, we strip things back. We had a focus that was mile-wide, sorry, yes, mild wide entity, but now it's the converse. So Mark's quite right, pest control, we never really go after pest control opportunities if it's an add-on and we get us to look at it for a customer, then we will certainly add it in if the revenue and the margin is correct. But it would be subcontractor or it's not something that we do ourselves just here.

Brilliant. Thank you. David Oh, you are now up to 83% recurring revenues as a proportion of turnover significantly higher than 3 years ago, following acquisitions of Fidelis and LaddersFree. Do you envisage this proportion rising above 90%? Not sure, are we?

Well, I mean, look, we -- Go on Andrea, can you take a stab at it first and I'll come [indiscernible].

No, I was just going to say, by nature, our reactive and ad hoc are slightly unpredictable. And I think we're not setting ourselves that target of 90%. It will -- it's risen above 85%. We think it will stay in those high 80s, I think. That's what we can predict right now, but we haven't really contemplated over 90%.

Anything to add Shaun?

No, spot on.

Yes, absolutely agree. Yes. No, no. So look, we now have that resilience in the business of 80%, 85% recurring revenues. And as you say, anything that's reactive, is a bonus, right. There's 2 questions are very similar. So I'm going to read them both. One from David Oh. So does the high gross margin from LaddersFree results in the group returning to the high gross profit margins pre Fidelis. So that's one element. And I would add that it's not just the LaddersFree, but it is also more of the higher-margin reactive piece coming through. And then Peter De says, what time frame do you have for returning gross margins too high, hang on, sorry, basically, I think, it's towards the 30% as mentioned in the presentation. So for instance, do you think this will take 3 years or less. And I hope it'll take a lot less.