Luxfer Holdings PLC (LXFR) Q2 2015 Earnings Report, Transcript and Summary

Welcome to the Luxfer Second Quarter Conference Call. We will first hear from Luxfer's Chief Executive, Brian Purves, who will provide a market overview followed by Group Finance Director, Andy Beaden, who will review financial performance. Brian will then return to sum up and offer an outlook. After that, Brian and Andy will be glad to take your questions. [Operator Instructions]. We will now turn the call over to Brian Purves.

Good morning, ladies and gentlemen. Welcome to the Luxfer conference call on the second quarter of 2015. Turning to slide 4, we were reasonably happy with our progress to quarter two, sales revenue is up by some 8% before the impact of exchange rates. Unfortunately the key exchange rate that affect us have moved by an excess 20% over the last 12 months and we’re for the -- more depressing underlying improvements in revenue and profits. There appear few sector remains a problem for us but increasingly less so while the other sectors have caused us problems in 2014 are performing much better this year with the important North America SCBA sector up by quarter and demand for U.S. military program has much improved albeit it from the low point of 2014. Our most recent acquisition continues to perform well with $6.8 million of sales in the quarter. Adjusted fully diluted EPS of $0.28 was $0.01 ahead of consensus and also $0.01 ahead of Q2 last year. We made some good progress on reducing working capital in the quarter with the result of cash generation in the quarter was our [indiscernible] sometime. Turning to slide 5, the North American market for SCBA kits is as we expected now well up on prior year with most although not all manufacturers having their kits approved to the new standards. We did suffer a 10 day outage our riverside composite plant at the end of May when an a electric arc burnt out number of distribution plans. Market disruption however was minimal while it did result in additional costs. Although this year we will be measured against historical average sales of military carriages have been well up on last year. The second quarter last year was particularly weak because of an accident at one of our customers plan. So the underlying improvement year-over-year is likely to be more like 25% rather than 50% that we see to-date. Although we saw a brief rise in oil prices these have fallen right back again and we see no reason to be optimistic although the near term sales through oil and gas industry and in some sectors we’re switching from diesel to CNG. While we remain confident that this will be an important market for us in the long term, we remain clear that we are operationalizing production facilities is the right thing to do at this time. Because of weakness of the EU [ph] is hearting margins on sales out of our UK business units to the extent that we’re unhedged. Despite the Euro having declined by 20% against the dollar over the last months, Eurozone inflation has still almost zero so pricing to recovery impact will be a challenge. We’re seeing sales of our magnesium alloys lower this year what appears military helicopter to hold our refurbishment rates having being cut back. Build rates [indiscernible] were very healthy and that is the sector that we’re targeting for future growth. we had a better quarter on industrial catalysis but all in the center is still quite intermittent. On slide 6, our program to rationalize our alternative fuel manufacturing facilities is well under-way, the Utah facility is now inactive and take [indiscernible] under production is being done at our riverside plant. We’re well advanced in appealing the customer and regulatory approvals required to manufacture type 3 cylinders for the European market at our Calgary plant. Calgary management demonstrated a good ability to control costs in light of demand and on the riverside the organic fuel plant are highly motivated portable composite facility with the ability to share overheads at direct [ph] label during the two operations. Our German plant is scheduled to close at the end of this year and we’re working to minimize the level of stock that will have to be crunched out. Although the [indiscernible] continue to throw up opportunities the bulk gas transportation sector remains quite weak. Manufacturing assets are likely to be redundant are being written down with most of that happening in quarter one. Cash costs namely for severance payments are taken into account as we are committed, as we enhance the closure of Luxfer Germany [indiscernible] during quarter two, provision has now being made for those costs. Although the bulk of account will be spent in quarter four. We are likely to continue losing money on alternative fuel during the balance of 2015, but our plans to enable the group in 2016 have a profitable global air of business even with oil aren't where it was [ph]. Moving to SUB161, the startup virtual pipeline customer in Australia, this business had difficulties last year as a result of engineering problems with the infrastructure of their project, deciding to supply a large quantities of natural gas to mining operations in the Gobado [ph] region of Western Australia where pipeline access is very limited. Our receivable was a risk but all at fault parties believe that they are moving forward the business and the recapitalization was a treat in early July. Luxfer is now a shareholder in the business and we have appointed and elected to the board. The business is now debt free and we’re working with that to prove the concept of the virtual pipeline incorporating our gas transportation modules to line operators. On the revenue side, on the electron first. The cerium surcharge has disappeared from our pricing structure. Stripping out the surcharge of also exchange rate movements sales in the quarter are up by 9.6$ mainly due to Luxfer Magtech which continues to perform as expected. Underlying sales auto sectors were also up by 1.5% of prior year, as mentioned before aerospace alloys sales are down at the moment and also series of automotive catalyst for two in the quarter. The encouraging reversals of our military powders have improved year-on-year also those of our Czech recycling plant are [indiscernible] products. Slide 9, the silicon business [ph] improved in the quarter with the North America SCBA market went up but the division is still suffer from reduced auto and fuel demand and the European business is being partly by our first exchange rates. Encouraging the exchange rates however nor the alternative fuel that is were up 5.8% over prior year. Alternative fuel sales in the quarter totaled 8.2 million down from 11 million last year partly due to exchange rate movements but well up on the 5 million during the first quarter of 2015 with the improvement coming in North America. European medical composite sales were stronger and also super fall increased sales of both [indiscernible]. Slide 10, to give an update on a couple of our strategical projects and following the Aircraft Interiors Expo in Hamburg last April where prototypes containing our electron alloys was on display. We have a surge of interest from manufacturers of aircraft importance. We’re confident that the question marks over to them have been removed and all that remains is the depth of our application off the ground. Our innovative medical oxygen delivery system designed for [indiscernible] who oxygen therapy patients is current in production and other type of population of market ready devices for which to draw performance statistics. While these are available we will seek CE approval for the product which is sufficient to our sale in some markets. We additionally need medical authority regulatory approvals in a number of countries including the UK but obtaining these is not as an onerous a process as I understand it can be with the FDA in the U.S. Accordingly the first meaningful sales of this device are expected to be in 2016 and we’re excited of getting close to the long term to supporting product for us and Beaden will now take you through some of the detail in Q2 results.

Thank you, Brian and welcome everyone to the call. Brian gave the divisional sales analysis and my first slide, slide 12 shows of our consolidation to the growth revenue changes to Q2 2015. Total revenue for Q2 2015 was a $122.8 million with no separate rare earth chemical surcharge now required. And this compares to a 121.3 million network new for Q2 2014 underlying group network new was in fact a $8.9 million with FX translation being a negative $7.4 million. Luxfer Magtech which was acquired at the end of July 2014 added $6.8 million in the quarter and we had a positive movement in the other trading revenue of $2.1 million. For $2.1 million represents in fact a $4.2 million increase in revenues across the continuing group with strong composite cylinder sales and growth in magnesium products. Less negative FX transaction differences of north 0.8 million and a 1.3 million net reduction in AF [ph] revenue, revenue in North America slightly up. We will see later this underlying growth that for some reasonable improvement in underlying profits though attempted by the FX headwinds. For the analysis I would like to breakout the FX impact to serve the underlying trading. Slide 13, shows trend and sales for Q2 2015 by geographic region which follows similar trends we saw in Q1 2015, the sales in North America well up the strong still contain breathing apparatus [ph] sales, the addition of Luxfer Magtech sales and further magnesium sales improving in area such as military players and plates products. Asia Pacific continues to lack against last year with weaker AF sales and some softening in Chinese markets. I think the trading profits in adjusted EBITDA results on slide '14. The Q2, 2015 good trading profit was 11.7 million up 0.5 million on Q2 2015. At constant exchange rates trading profit was up $1.9 million, half of this improvements was down to the inclusion of the Luxfer Magtech and the rest was attributable to a better underlying performance in both divisions. FX Changes have a 1.4 million negative impacts on this profit number. Despite the FX headwinds both the divisions also improved when compared to Q1 2015. Electron results $10 million was $0.5 million ahead of Q2 last year, the underlying profits improvement was in fact 1.5 million with FX differences here negative $1 million. Magtech was the major contributor to this improvement but magnesium product sales growth also helped in areas like the military players. This more than offsets the weakness of the zirconium chemicals and also a weaker aerospace quarter. Adjusted EBITDA for electron was $13 million compared to Q2 2014 $12.3 million, the adjusted EBITDA for electron was 1.8 million or $16 when measured at constant exchange rates with 1.1 million FX differences. The EBITDA margin on the division was 21.6% just down on Q2 2014 with an improvement on Q1 2015 to 20.9%. The trading profit is skewed to 2015 with $1.7 million, the same as Q2 2014. At constant exchange rates profits were up north $0.4 million FX have a north 0.4 million negative impact. The last remains a track on division with losses still close to a $1 million in the quarter, the rest of the division achieved an improved profit results thanks in part the performance of sales improving and the composite sales growing in self-containing breathing apparatus in the medical markets. Adjusted EBITDA was $3.7 million slightly down on Q2 2014, again a result from the negative FX differences. The Q2 2015 group adjusted EBITDA was therefore $16.7 million compared to 16.2 for Q2 of last year. And also a sequential improvements on Q2, 2015 what was $15.4 million. Adjusted EBITDA of constant exchange rates was up of $2.1 million or 14% on Q2 2014. The group's EBITDA margin was 13.6% compared to 13.3% for Q2 2014. At an EBITDA level the FX impacts were noted $1.6 million being slightly higher than the trading profit impact due to additional FX difference on translation and depreciation. For the half year, adjusted EBITDA therefore $32.1 million against 33.1 for the half year 2014. The adjusted EBITDA is up $1.9 million, FX differences reducing results by $2.9 million. The income statement from slide 15 we have covered revenue and trading profit already so I will not repeat or announce this on those items. Gross margin is up in the quarter at 23.7% versus 22.4% of Q2, 2014. This reflects a benefit of Luxfer Magtech and broken areas like magnesium products and composite cylinders. Distribution cost is at 2.2 million for Q2 2014 are flat compared to the Q2 2014, admin expenses are higher as 14.8 million over this is more than explained for the existing overhead of Magtech with further admin cost slightly lower due to cost savings. In the quarter we have charged 2.9 million to restructuring and similar expenses. This all relates to restructuring AF [ph] businesses. Of the 2.9 million 1.2 million is asset write-downs, and 1.7 million relates to restructuring cost where the cash spend will be shared at Q2 to Q4 this year. Operating profit after restructuring as exceptional items was lower at 8.8 million for Q2 versus 10.4 for Q2 2014. The low operating profit I have broken out the elements of the IFRS finance charges being as follows, at interest of 1.9 million that’s north 0.3 million increase as a result of increased debt to finance Luxfer Magtech acquisition the notional IS19 retirement finance charge which is north 0.8 million which is 0.1 million higher as a result of higher pension deficit at the start of Q2 plus north 0.1 for the notional interest charge on deferred acquisition consideration which is the same last year's Q2. In the appendixes of this presentation it's worth noting we will disclose our non-GAAP reconciliations for adjusted EBITDA, adjusted EPS and you can see that the strip out for restructuring cost, acquisition dispose light business and the IS19 balance charges. The underlying tax rate was circa 27%, but the restructuring cost in Germany did not lead to a tax credit due to tax losses in Germany leading to a much statutory tax rate as you see being reported. The underlying tax rate is in fact very similar to Q2 last year which is 28%. Statutory net income for Q2, 2015 was $3.1 million compared to 5.7 million net income for Q2 2014. For adjusted for exceptional items and excluding IS19 finance charge, Q2 2015 was an underlying net income of $7.6 million as same as last year. Fully diluted adjusted EPS was therefore $0.28 for Q2 2015 compared to $0.27 from Q2 2015. The slight improvements results of lower than with the share count. The adjusted EPS was at the top of the range of the Wall Street consensus. The next slide, number 16 shows a consolidated balance sheet, it reconciles the key changes from December 2014 to June 2015 overall invested capital in the operating businesses $273 million net to the pension deficits of 80.1 million as of 30th of June 2015. The pension deficits have gone over $10 million from the 2015 year ramp positon. This has been a resource of a higher discount rate due to liabilities, due to higher bond yields and seeing the benefit of cash payments into the plans. Net debt which is debt minus cash was 98.4 million down from the 106.8 million at the year-end 2014. Banks show a stronger cash flow, FX differences due to the stronger U.S. dollar reduced net assets by 2.2 million and year-to-date rationalization activity reduced assets further by 9.9 million net of tax. Turning to the cash flow and slide 17, so a very strong cash quarter, our operating cash flows in Q2 2014 were a positive $16.4 million compared to Q2 of 2014 negative $4.7 million. Working capital was an inflow in Q2 2014 of $4.2 million with reduced receivables and interest rates. Actions continue into 2015 to reduce working capital further with potential for further interest rate reductions in the latter part of the year. Investment cash flows were a net spend of 3.3 million in the quarter. We invested 4.1 million in Q1 2014. CapEx in property plants and equipment at 2.6 million was lower as we managed cash flow and capitalization of intangibles was north $0.7 million. Cash flow before financing was therefore an inflow of $13.1 million compared to an outflow of 8.8 million for Q2 2014. Other revolver drawings were high for the quarter and we did have surplus cash at the end of the quarter the total cash balance was $58.3 million. We plan to utilize some of this to repay revolver drawings in Q3, we received north 2 million from employee share funds buying new shares and expense 1.7 million on our own share buyback program. So in summary we made progress on profitability in Q2 in both divisions when compared to recent trading and this was despite the currency headwinds. The restructuring of the AF operations continues with some upside achieved in North America sales. On the cash side the quarter was very strong and we remain on track for a much improved year in terms of trading cash generation. Thank you and I will now hand you back to Brian.

Thank you, Andy. Turn to slide 19, summarizing Q2 there as we underline performance of the cylinder us is improving for the North America SCBA returning to growth and progress being made on improving sales and cutting costs in the alternative fuel business stream. Improvement on this however was somewhat lost chain trade movements. Despite those adverse exchange rates the specialty material side of the group reported a higher result this time last year even with some key markets below cost. Overall our adjusted result was actually slightly ahead of consensus and our cash performance was very good. In terms of the outlook for the divisions the weakness of the euro is hurting profitability of our European operations on top of the continuing lack luster Eurozone economic. Nevertheless the electron divisions remains on track for the good year helped by the addition of Luxfer Magtech. In the North America side the performance of the business has little bit strengthened. AF losses are unlikely to be completed eliminated until late this year but non-AF markets are now strongly up and we expect this to continue in the balance of the year. We’re looking to add value to our medical products in Europe in 2016 and this should help our European side of the business. Slide 21, the outlook for the group, the outlook is in-line with our [indiscernible] indications. We still have more work to do in cost reduction in alternative fuel but the other markets that were badly affected by external factors in 2014 are coming good. The focus on working capital is starting to pay and we remain confident to further improvements in our return on capital. While the weakness of the euro and indeed of the Eurozone economy is troublesome we continue to believe that we can drive a net improvement in group profitability over 2014 underutilizing trend into 2016. Thank you, and we will now take questions.

[Operator Instructions]. Your first question comes from the line of Luke Folta of Jefferies.

Number questions here sort of all over the place, I guess firstly can you just give us a reminder on what you think the total cost savings of the restructuring efforts you’re doing in alternative fuels will be and I guess in the second quarter how much of that has been cash rich so far?

Well we’re trying to go from a situation where we were at a run-rate of losses which was several million dollars last year, the run-rate of several million dollars. We lost about nearly a half dollars in first quarter of this year, we just had about 1 million [ph] in Q2 with most of the restructuring actions in North America having taken place in terms of shutting down the use of our facility but over there transferring production from Germany into the Canadian operation. I think that’s probably, it should have been worse than that I mean in two course of the year, so the cash loss is probably huge amount better unless [indiscernible] surprise business. But the plan would be that as of January 1 next year with the German operation closed and with production transferred into Canada and/or UK but the watch case for 2016 would be breakeven so year-on-year you can get that clue into roughly a $4 million improvement in '16 overcome is what we’re aiming for with 2015 being better than 2014.

Also there are some comments around weakness on the aerospace alloys part of the magnesium business, that’s being an area that’s been pretty strong, I recall over the last several quarters -- can you just give us some sense of what's changed there?

You’re right, I mean as on year-on-year growth for several years now and it's the same model as that we’re intending to read across into the [indiscernible] sector but right at the moment certainly in Q2 we saw military -- the one for military programs are in a bit. As you know we’re heavily into the helicopter industry and some of the build rates on military helicopters those programs would stretch out a bit. So this is a monthly call off as such we use for the moment. So it's clearly military helicopter demand it's a bit down and that’s just unusual because we’re seeing steady growth in that market for several years we talked, it's not more of a short term effect but from military side I guess that we’re suddenly know for 12 to 18 months at least.

And so you are speaking that you step down into this sort of lower run-rate for the next 12 to 18 months or you’re wanting to be on decline in the next 12 to 18 months?

I think we set down to a lower run-rate for next 12 to 18 months. It's not a major impact on it's just a little disappointing to see a temporary setback but bear in mind that this is the same alloys that we’re targeting the civil airline market with [indiscernible] see it pick up back at some point in 2016.

And then the medical oxygen product that you’re developing, I think appreciate to update on the timeline your thoughts there but just as we think about the cost associated with doing the initial production testing, it's not that you’re going to ramp up, I think if I recall correctly you’re recovering this ramp this upto to pretty decent product rate do you qualify the test units. So can you just give us a sense of what sort of drag that’s having on costs now and sort of through the remainder of the year clearly something that will reverse in the future?

The cost of the program has been running into approximately a nearly sterling a year ago so $1.5 million - $1.6 million give or take. We’re producing I think about 200 of these devices to do statistical testing, so in itself that’s not a major cost and most of those should be available for sale once the product is approved but that’s a representative of run-rate if you like if we -- the ongoing cost of the product, exactly in the coming year and last year pretty much last year as well, there will be also [indiscernible] costs marketing expenses and such like, probably things that are probably run through the first quarter of next year but it will start to -- net back when sales commence.

And just a couple of more quick ones if I could. The SCBA market is thanks to see that the headwinds there have subsided but as we move into '16 it might be a little bit of something -- are you able to give us some sense of how much you think the lost sales were this year and just given the regulatory delays that’s not going to be an issue next year so I imagine there will be a nice step up in sales there even if demand remains flat but any color if you can give.

I think it was 2014 numbers that were quite heavily depressed and by the regulatory problems. There might have been a small degree of staff updates [ph] in Q1 but pretty much the year-to-date in 2015 is I think probably a little higher than it would have been in the coast that started to catch fire. Some of the sales were lost if 2014. So when you look at the number being sort of 25% - 27% up on prior year we probably expect that to continue through the balance of this current year but some of that will be catch back of 2014 loss of sales. So for 2016 it's only reasonable that we won't get a further pick, carry and grow because we got catch up in this year presumably that will be done by the end of the year. So I think 2016 is likely to be fairly modest increase over '15 and then we will see probably the growth again in '17 according to the marketing that we and our customers have.

Last one, just looking at the comments you made around the sterling, euro FX impacting in the hedge, can we get some sense on what the baggage through that could be on -- I mean you provided us your sales there but it's unclear exactly where you’ve put the hedge on so can you tell us sort of help us understand the magnitude if there were reset today, how would that impact the business?

I'm planning against sterling and I guess the dollar, sterling/euro this issue for several years. So over nine we have being deteriorating not just in the spot price but the hedges that we have in place and they continue to deteriorate but not one single hedge rates. I think our blended rate at the moment is around 130 still into euro, the euro is about 142 so there is probably another potential $4 million - $5 million impact if all our rates is set. Of course we have got hedges going right up into 2016. So it's quite a long time to go and then on top of that we do have the power to clearly to target price increases. So they joist take time. So there are a number of for the levers that we can call to mitigate the potential longer term margin impact if in theory the euro stayed at it's current weak position.

But just to reassure everyone, Luke, we have factored in continuing weak euro in 2016 when we have considered the guidance that we have out there. We will have a trouble what to do with cash back, the shortfall through pricing. I very much doubt that we will be able to do all of that in one year. As I pointed out the background inflation rate in the euro zone is still going 0% to 0.2% something like that. So all else being equal it would take several years where we need to see an inflation impact come through. But we will set ourselves the objective of recurring every summer the impact through pricing and other improvements in the business not on revenue streams. I mean we can overcome that sort of gross impact Andy, was talking about but it is a significant additional potential impact if we are close to that 142 level in 2016, the best you can say about is we have got define to plan for and to do what we can do about it.

[Operator Instructions]. At this time there are no further questions. I will now turn the call to Brian Purves for any additional or closing remarks.

Okay, I will assume that Luke [indiscernible] ask everybody's questions in one go so thank you very much ladies and gentlemen and we will speak to you again for the Q3 results in November. Thank you. Bye.

An encore recording of this conference call will be available in about two hours. You can access the recording on the Luxfer Group website at www.luxfer.com. Thank you for participating in the call. You may now disconnect your lines and have a wonderful day.