Solid State (LSE:SOLI) — Acquisition of Electro-mechanical Component Manufacturer and Supplier - Willow Technologies Ltd

0:05 Good afternoon, ladies and gentlemen, and welcome to the SOLID STATE PLC presentation to introduce the acquisition of Willow Technologies Limited. We will also give a brief summary at the later on in the presentation on the group M and A strategy having made two acquisitions in close succession. So we will bring those two together in a slightly more cohesive way.

0:30 To start with, if we could cover a couple of housekeeping items. And before we begin, we would like to submit the following poll, which you will see on your screens. Throughout this presentation, investors will be in listen only mode. However, questions are encouraged and can be submitted at any time via the Q and A tab situated on the right hand corner of your screen or if anyone has dialed in via solidstatewarbrookpr dot com. The company may not be in a position to answer every question it receives today. However, the company will review all questions submitted and publish responses where appropriate. These will be available on your Investor Me company dashboard. Finally, would like to remind you that this presentation is being recorded.

1:15 I would now like to hand you over to Chief Executive, Gary Marsh Group Finance Director, Peter James and John McMichael, Managing Director of the Value Added Supplies Division. Gentlemen. Thank you for joining us today, everybody. I'm John McMichael, and I'm the managing director of the value added supplies part of the business. So I'll be giving you some of the background and then a little later on some of the detail about this recent acquisition. So just to launch straight in, in brief, the company that we've just acquired, Willow Technologies, has been around since 1989. It has offices in Spain and Germany and also a subsidiary in Elkhart, Indiana in The United States.

2:05 And Willow has a long pedigree of providing electromechanical devices to the industry. Through its manufacturing subsidiary in The USA, it produces relays, contactors, float switches, glass metal seals, and and several other devices as well. These products are manufactured under the brand names of Duracool and Hermo Seal, both of which are registered trade names owned by Willow.

2:35 Importantly, the company has a culture similar to that of our value added supplies division within SOLID STATE PLC. And the initial meetings with the key suppliers have shown that we have a very similar philosophy in our market approaches. Senior management recognize the value of their staff, and in turn, the staff do feel valued. Critically, during this period of COVID restrictions, the vendors have an earn out and are staying with the company and we'll continue to run it, albeit, with increased investment and a strategy now focused on growth. And, of course, we're looking to leverage the enlarged operations to benefit all areas of the existing businesses.

3:26 We just wanted to take a bit more of a look at Willow Technologies and what they do for you. So just a little bit on that now. Like our other acquisition a few years ago, which was Pacer Components, Willow have both value added distribution and component level manufacturing. They are, in fact, well respected experts in the field of electromechanical solutions, and they bring with them new skills to the group. Their product offering is world class. It sits neatly in the high performance area of their discipline and finds uses in harsh environments and difficult applications. In fact, very similar to the products that we offer across the rest of the group.

4:12 Consequently, the technology attracts higher gross margins than other products in the existing business. The two brands are well established, and they're sold through direct sales and also through what we call channel sales, which is a series of reps and distributors worldwide. The USA sales channel is well established, and in fact, it may well be beneficial to the rest of the group.

4:43 So just taking a quick look now in a little more detail. The ability to produce our own brand goods within value added supplies has been a strategic goal for some years. The acquisition of Pacer was the first step we took towards that goal. And Willow and AEC, by providing two key brands with existing market penetration, that are ripe for investment in new product introductions. Underinvestment in the brands in recent years has created an opportunity really for us to get into new product introductions and to put new products in the marketplace in key application areas. With a mixture of in house capabilities and long standing subcontract relationships, AEC is able to take advantage of low cost manufacturing for its volume products alongside an in house, more specialist, high margin custom capability.

5:46 The Hermesil product range is also right for investment and development as green tech the electric vehicle applications require higher and higher levels of isolation to cope with the higher and higher energy levels that they're being required to deliver. These two established brands, and DuraCool in particular, offers the opportunity to bring products from our existing optocomponents business into that brand without the otherwise huge overhead of us trying to establish a brand from scratch.

6:26 Gary? Thank you, John. The UK operation has its headquarters in West Sussex, just south of the M25, with good air and rail connections seven miles away at Gatwick. This operation comprises sales, technical support, and warehousing. The US subsidiary houses production alongside sales, commercial, and technical support for The US market. And this is complemented and supported by the European sales channel and other support resources. Willow and AEC form part of the value added supplies division, as as John has already mentioned, broadening our product offering with the introduction of electromechanical components to the group.

7:14 Both businesses expand the supplies division's capability to support our manufacturing division, giving access to leading products complementing both power and antenna business units of SEERTY. John will give you a bit more detail on this, a little bit later in the presentation. Our operating structure with two divisional managing directors has given us to take advantage of these acquisition opportunities and acquire active silicon and Willow Technologies simultaneously.

7:50 And this is what our supplies division looks like now post the acquisition. AEC and PACER are both component manufacturing arms, whilst WILLOW and SOLID STATE Supplies, at the center of the chart there, are value added sales operations. Willow is complementary to SOLID STATE SUPPLIES, and AEC is complementary to PACER. The two component manufacturing arms both make sensors and switches with pacer manufacturing optoelectronic devices and Willow electromechanical products. I'll now hand back to John. Thank you. So we we understand it's often quite hard to get a feel for just what these components are and what these components do. So

8:43 what I'm going to try and attempt to do is just give you a flavor of what electromechanical components are. What you're seeing there is a list of typical electromechanical components, and on the right hand side, just some little pictures that I'll try and give you a bit more color to, as we talk to this slide. So so what are electromechanical products? So the first thing to note is that electromechanical or EMEC devices, as you'll hear them referred to here, are a product category within their own right. So our industry association, when it reports, reports sales for this category separately to others. And, hopefully, you'll understand the importance of that as we go through the presentation.

9:28 So in layman's terms, an EMEC device is one where the flow of electricity causes mechanical movement. Or Or if you think about it in reverse where movement causes electricity to flow. And a a good example is a light switch. That's an electromechanical device, one of the simplest there is. If you want it slightly more complex, a cooling fan is a is a good example of an electromechanical device where electricity causes a motor to turn, which causes the blades of the fan to turn. So what you're looking at on that slide, in this picture, we've got a on the right hand side, a relay. Many of you will have seen that sort of thing within your cars. What a relay does is it uses a very small current to bring two contacts together, which themselves can carry a very high current.

10:20 That's becoming more and more important in areas like green energy and electric vehicles. If you look in the center there, what you're seeing is a tilt switch. Tilt switches do exactly what they say. When they're tilted, they break the circuit, and when they pop back the other way, they make the circuit. Sounds very simple, but, actually, creating a tilt switch that can carry very high currents is not trivial. And on the left hand side, what we have is a ceramic seal, and that falls into the Hermo Seal brand of products. And in the electronics industry, hermetic seals, there are a means of closing off and protecting electronics from the outside environment. So that might be from gases or it might be from moisture.

11:09 However, once we've closed all that electronics off, we still need to get the signals in and out. So what these seals do, what these glass to metal seals and ceramic seals do is they allow us to bring signals in and out of kinetically sealed packages. So just to try and bring that to life for you a little more, I'm trying to look here at some real life examples of where EMET products might be used. So if you look at automotive and transport, then today, charging requires very high current switching. It requires temperature sensing. It requires high voltage contactors to handle the DC, and it spans applications to go from cars to charging posts to agricultural vehicles, construction vehicles.

12:04 And even as you see their safety switches on trains, most of us, I think, will be familiar with that little switch that that stops the doors opening while the train's moving.

12:14 If we look at green technology, then the renewable energy market requires high voltage and current switching. And, again, that's to enable the energy developed to be stored for us so that we can make use of it. And, of course, that also fits quite neatly with our battery business unit, which is down in Crewe Kern. Typical industrial applications for EMEK products include heating and ventilating, air conditioning, battery switching solutions, telecommunications. And that typical telecommunications application that you see there would be where a large antenna array needs to be remotely controlled, and we need a means of controlling very high energy systems safely and often in harsh environments.

13:01 And that's where the DualRecall products come in. In safety and security, applications would typically include the simple level health and safety guards for machinery, or as you're seeing there in the picture, vandal proof switches, for example, those used in lifts. In fact, almost all of Willow's key market areas are also target areas for the group.

13:31 Just trying to give you a little more flavor, perhaps a little more detail. What I wanted to do here was just look at one particular example. And this this here, this slide that you see in front of you is really a great example of how Willow and AEC products expand the product offering that we have throughout the group for what are high growth structural markets. The new products that are available complement the offering across the entire group of companies without overlap. And it's not just the value added supplies division. They strengthen the group's position in our chosen strategic markets. This example happens to be a charging post for electric vehicles.

14:17 The group is already able to offer the wireless connectivity, perhaps cellular or Bluetooth, the processing and computing, the ruggedized and high brightness touchscreen displays, power devices, and design services. But now, added to all that capability, we've got the high value switching and sensing devices from Willow and AEC, and that includes the high current DC contactors, relays, and sockets. And perhaps one of the key points here is that interestingly, even though these are the dull looking little components, they actually sell for higher values and margins than many of the processing and communication chips despite despite their relative lack of complexity.

15:10 We'll take a look at what the group brings to Willow, and then we'll take a look at what Willow what Willow brings to the group so you can get a feel for why this acquisition was important to us. So what does the group bring to Willow? Well, Willow are benefiting from the large active customer base that the value added supplies division already has relationships with, whilst at the same time, bringing additional products to the existing Willow customer base. The additional resources that the group can bring in marketing, business development, technical support are all allowing us greater market penetration, whilst our ability to invest in growth really does allow us to take the handbrake off for Willow.

16:00 The senior leadership team at Willow have multiple growth opportunities, but being part of the group will allow them to exploit. And with the right investment, for the right opportunities at the right time, we expect to be able to significantly grow Willow's business. And if I now flip that around and look at what Willow brings to the group, you can see immediately from the headings that there are some significant advantages to us. And so on the other side of the group and the value added supply division in particular, we benefit from the addition of two well established brands with the opportunity to add complementary products from our optoelectronics division under those brands.

16:48 The addition of the electromechanical devices takes the value added supplies division into a new category of products. And importantly, that brings resilience to the business because the various sectors within the electronics industry often behave differently in challenging times, and that's why our industry association measures them differently, categorizes them differently. The group strategy of expanding our influence geographically is supported by the inclusion of Willow and AEC, with approximately 70% of sales coming from outside The UK, primarily from The USA and Europe. Our strategic goal of our offering or enhancing our offering in strategic growth markets clearly benefits from the addition of Willow as it takes us into markets such as electric vehicles, electric vehicle charging that we showed

17:43 earlier, where specialist rugged components are needed. And that, of course, is in line with the group's strategy to provide products for demanding app application. Importantly, Willow brings not only the products and markets, but the expertise and experience of a highly respected workforce that helps us to take full advantage of all of these aspects. That experience and the expertise combined with the product offering may have some decided benefits for the rest of the group. The devices for switching DC in battery storage applications supporting our battery or power business, for example, and giving access to markets such as agricultural vehicles, which is, in its own right, a target market for the battery business.

18:35 The USA based AEC operation brings critical mass, and that will be explored so that we can try and take advantage of their sales channels and their channel structure to the benefit of the entire group.

18:52 So summary, just very briefly, with Willow and AEC, what we're getting is an unusually good fit in that it hits so many of our strategic goals, an opportunity to truly develop our own brand products, an established operation in The USA and sales across Europe, significant growth opportunities, and the opportunity, of course, to take the brakes off. And all of that really combines to put a step change into the value added supplies business within SOLID STATE PLC. And over to you, Pete. Thanks, John. So I'll I've got a couple of slides here to try and highlight some of the the key financial points in in this deal.

19:40 And, yeah, we'll start here with the the the revenue here. I think like all business, calendar year 2020 was a pretty tough year. So, yeah, Willow is no exception. However, in spite of revenue being down just over 10%, management has taken really sensible, prudent cost management pro procedures. And as a result, combined with the strong margins John's talked about, they're gonna continue to be profitable this year, which is a great testament to the theme that we're inheriting.

20:12 The initial consideration, net of the cash, was just over 5.5 or just just under £5,500,000. And there's an earn out in one year earn out for profits in excess of 700,000. The maximum earn out is capped at 3,500,000. So if the business were to deliver the profits to achieve that, the enterprise value would be about £9,000,000.

20:38 So if we took the the initial consideration of of 5,500,000 with the expected level of profit this year coming up, that would reflect a nine times earnings multiple. If they achieve their full earn out, it'll allow that rate to drop to just over eight times. So either way, we feel that's a pretty fair price for a for a business like this. And probably one thing to note here is that the gross margins in Willow's businesses are slightly stronger than the the existing value added supplies division, and that reflects the the own brand products they've got, the component manufacturing, which attracts a slightly better premium to franchise distribution where we don't have we don't have the titles for those brands.

21:27 So the opportunity, as John said, to grow those and develop those products is is really pretty significant. This is a business that hasn't had the benefit of being able to invest in the way we hope to going forward, and we think there's some really fantastic opportunities that I think John's alluded to and talked to earlier in the presentation.

21:52 The next slide, I've tried to to highlight here what the the two acquisitions, and this is the benefit of both the active silicon and the Willow acquisition on this slide in terms of what were the consensus expectations from the analyst pre those two deals, and where have those expectations moved for financial '22 post. So we can see there revenue is up pretty significantly up just just about 20% on where it was without the deals. And if we look down the p and l, operating margin up 14%, likewise EPS. So a really positive contribution. No dilution has been incurred in completing these acquisitions.

22:41 And if we get through here, actually, the opportunity to benefit from the operational gearing of both of these businesses, you can see there the gross profit margin is strengthened as a result of active and Willow joining the group. So as we grow the top line over the coming years, we see a good opportunity to improve our net margins as well. I think it's fair to say the group has a has a great track record of doing acquisitions, and the the strategy with these is to invest in these businesses and grow them and deliver the returns through through growth. Here's some pictures of of some of the acquisitions we've done previously. So Lentster is our our antenna and communication division. We've moved into a new facility and and invested pretty significantly there in their capabilities.

23:33 Pacer, likewise, which is the most recent one we've done on the the value added supply side of it. That's a new facility that they've just started to move into, and we expanded the clean room and continued the investment there to give us better capabilities to enable us to drive, yeah, volume and margin improvement, which will translate, hopefully, into net margins as well. I'll now hand over to Gary, who will give you a bit of a flavor for some of the history of acquisitions and the strategy going forward. Thanks, Pete. So for those who are new to SOLID STATE, first, I'll I'll touch a little bit on on the history. We've been going a long time, so I won't I won't spend too long on it, before moving to the acquisition strategy.

24:19 So the company was founded fifty years ago this year, and began life really as a as a broker distributor of of electronic components. From the late seventies, as the component distribution market matured, we signed franchise agreements with component manufacturers, but we were very much focused on on semiconductors. We floated on the AI market in 1996 and, well, I believe, company 150 to join AIM. That injected funds into our supplies business, and the company grew well until the dot com bubble burst in late ninety nine, two thousand. We began to see production moving offshore to Eastern Europe and China. It was then a case of do we delist or diversify?

25:05 Thankfully, we chose the latter. And in the nineteen years since, we've successfully completed 12 acquisitions to date. Over that period, we've gained a great deal of acquisition, integration and business development experience, and I will now move on to talk about our acquisition strategy for the business and our plans for the future. We're taking value added supplies first. 2001 and Ginsbury broadened our product offering and customer base, taking the Supplies division into what were then new markets in LED lighting and introduced military and industrial displays to the group. The addition of Pacer brought greater scale, the division broadening our product range into optoelectronics, takes into the medical sector and significantly enhancing our value added capabilities.

26:03 Willow and AEC now introduce electromechanical products to our 1,200 existing as customers, significantly enhancing our own brand component manufacturing capability. The acquisition of Willow and AEC are very much aligned to the objectives we've discussed in previous IMC presentations. As I said at our RNS announcement, it's rare to find a company that so clearly meets the strategic imperatives that we've set ourselves for the group. Our future acquisition strategy for Verse, we'll develop on those themes, for example, bringing new product areas, as you can see on the left there, like connectors and cable assemblies, while continuing our investment program to enhance our facilities, improving productivity and margins and delivering more integrated solutions to our customers.

26:59 So moving to our manufacturing division. We're quite steer tight in 2002, and that was really the genesis of the manufacturing division that you you see today, introducing computer and battery power to the group. Ever since then, we focused on developing trusted technology for demanding applications. The acquisitions of Wordsworth and Rugged Systems followed in computing and also pressure in batteries. In 2011, Blazepoint took us into new markets in transportation. We like structural growth markets requiring accreditations. They they give us barriers to entry to would be competitors. Blazepoint bought us recurring revenues from servicing contracts on 5,500 train ticketing machines we supply to 13 train operating companies across The UK.

27:54 The acquisition of Tupar took us into microwave antennas and high margin area of electronics and brought us in an international agent network. Creasefield enabled a real step change in production capacity for our power business, introducing new cell chemistries and opening up new markets in battery power. Active silicon significantly increases the fee the feature set we can now offer to our customers, bringing board level design capability and machine vision, helping us to address rapidly growing demands for AI computing. If you if you'd like more detail on the ActiveSilicon acquisition, you can find a recorded presentation on I IMC that we gave last week. We will continue to look at both bolt on acquisitions for each division to address our strategic objectives, but our focus now is twofold on on the development of our power business.

28:51 Firstly, investment again in production. The image on the right shows a robotic welder that can increase production efficiency by up to 90% for certain battery packs. Secondly, acquisitions that further internationalize the group, targeting power businesses with a turnover in excess of £25,000,000 in North America. And beyond that, larger acquisitions that may indeed lead to the introduction of a third leg of the group. So we're now happy to take any questions that you may have. Great. Thank you. Thank you, Gary, Pete and John. And would you like to turn your cameras on maybe for the Q and A session?

29:37 And that might be nice to be able to see you all. If we could turn to the questions, we've had a number of questions submitted ahead of the presentation. However, if you could please continue to submit your questions using the Q and A tab on the top right hand corner of your screen, that would be appreciated. I'd also like to remind you that a recording of this presentation along with a copy of the slides and the published Q and A can be accessed via your Investor Meet company dashboard after this presentation. Additionally, your feedback is important to the company. So immediately after the presentation has ended, you will be redirected for the opportunity to provide feedback. Looking at some of the early submissions, probably one for you, John, to start with, which is a good one to open up with because we've talked about structural growth markets quite a lot recently in the last six to nine months. What new structural growth sectors does this acquisition open up?

30:33 Yeah. Okay. We've about EV charging in the presentation, but I think a more significant one for us is the opportunity to get into green technology and renewables. It's an area of the business we've recognized for some time as strategically important because it's a well funded, government funded, in fact, sector. But to this point, we've not had products to play in that arena at all. What we have now is through the Duracool brand, we have the high voltage, high current capability that the group has liked before. And that, in turn, brings opportunities for our battery division, for example, where that high current, high voltage switching capability is paramount to being able to store energy from those renewable energy sources. So an entirely new market sector for us and application sector even though it's been a strategic goal for some time.

31:41 Okay. Thank you, John. Pete, probably one for you and and we get this a bit. How will the acquisition affect margins for the group? Yes. So I I I alluded to it in the in the slide. Willow's margins are are slightly richer than the the value added supplies existing group operations. And that's reflective of the brand's ownership and the control of their own destiny with Hermesir and Duracool. So as we grow the business, the opportunity to see those slightly favorable margins drop through to operating margins is is very good. And that's a similar theme that we we talked to in the presentation of active silicon on a factory side as well. That theme is is consistent with the acquisitions we've done in the last couple of weeks.

32:35 Okay. Super. And in fact, just while we're looking at the the margin question, we've got one here in terms of the product margins. Probably one for you, John. You said the products you sell a higher margin than more technologically advanced products. Why is that? Yeah. So the the the differentiator here is that these are not really complex products, but they are right at the edge of what's capable. So if you think about a device that has to operate at a thousand volts and at the same time carry a thousand amps, that's a fairly significant device. So the the technology that's in there demands higher values and higher prices, which in turn can command higher margins than, for example, a microprocessor or a Bluetooth chip, which in and of themselves may only cost 3 or $4, maybe $10 at the top end, and they're only commanding margins in the in the 20% range. So despite the fact that they are far more complex devices, they're just not able to command the the price and value margin of these much higher current, higher voltage, less complex devices.

33:59 Good answer. Thank you. Thank you, John. Quick one on The US. Can you elaborate on how The US manufacturing facility allows you to increase US sales? Yes. I saw that question come up to you now. Very simply put, the manufacturing operation out in The United States is not just a manufacturing operation. They've got sales in their own right, and they have a a very well established structure of reps and distributors, which we know as channel sales across the whole of The United States. That that's a typical way of going to market in The United States. The the advantage for us as a group of companies is that that is now an established channel that potentially we can make use of throughout the entire group.

34:44 That that's where that comment came from. Great. Okay. And two questions which we'll just take in succession have to do with acquisition hurdles and integration issues. Gary, maybe one for you. Do you expect efficiency gains on integration? Well, as you we've got a lot of experience as I said in the presentation on acquisition integration. We aren't looking here for efficiency gains. It's very much investing for growth in the areas John has spoken about in developing that successful platform of own brand products in eMAC that will have and how we develop that. So that's really going to be our focus. Obviously, if there are minor savings we can make there, obviously, we'll take them, but that it really is investment for growth here.

35:41 Super. And Pete, probably one for you just in in terms of acquisitions in general. Do you have any return on capital employed hurdles for acquisitions? Yeah. We we do, and we we also look yeah. It's a combination of factors. And if we look at these particular ones that we've done recently, there's there's pretty good returns. So, you know, the hurdle rates on the earn out are are geared to ensure that the management team that's still with the business are are driving returns post acquisition. And you can see that in the earnings multiple that falls as they earn their earn out. So so we work through multiple hurdles as a as a board. The time we have to employ was the one you asked about, and and, yes, absolutely, that's one factor.

36:30 But it's also about about making sure that we we weigh that up with an increasingly competitive market for acquisitions. So we need to pay a fair price to ensure that we secure these strategically important acquisitions. Okay. Just one question here actually which relates to one of the prior acquisitions which was the acquisition of BlazePoint. Talking about BlazePoint, how has e ticketing affected the activities of BlazePoint? The rail network still obliged legally to supply printed tickets. There are about two and a half thousand stations across The UK that have no barriers. So, you know, the revenue recognition people require printed tickets. It obviously will have an impact but we there's a an incumbent set of printers there that we need to we need to continue to service and develop. You'll see they've moved from the gray printers, you'll recall when you could go on a train, moving to the blue and black ones that we now produce and designed.

37:39 We will be continuing to supply those for many years to come. Super, okay. One here which is a slightly open ended, I'm not sure whether you might be able to address this John or not, but could you elaborate on how you expect the EV market to evolve over the next few years? Yeah. Exponentially. The EV market's a really interesting one in The UK. It's a very disjointed market. So even the EV vehicle market is now disjointed. We've got new players coming in that we've never heard of before. I saw in the news this morning five Chinese manufacturers, vehicles names you've never heard of, all with high quality EVs trying to penetrate The UK market over the next twelve months. NIO, NIO, is probably the one that people will have heard of.

38:35 So in terms of electronic vehicles, absolutely very, very wide ranging potential. It's not just the Fords and General Motors that are typically difficult to penetrate, but it's also the agricultural vehicles, the construction vehicles and some where ruggedized applications are far more prevalent and anything that's rugged is a good market for us. In terms of EV charging, again, a very disjointed market. There are about seven or eight established manufacturers in The UK. The standards are still being evolved. We talk about V2G now, which is vehicle to grid, which enables your vehicle to supply power back to the grid whilst it's charging overnight.

39:23 And so it's still very, very much an evolving market. There's still a huge, huge infrastructure required if we're all going to go electric. If you just start to think about every car park in the country which will have to have charging posts in it, you've still not even scratched the surface of how many charging posts will be required. So we work very, very closely with a lot of the consultants that are driving the designs of these new systems out to manufacturers who are putting their own spin on these charging posts. So I don't have a finite number for you, but it is it's potentially an explosive market. Yeah. Undoubtedly.

40:08 Yeah. Super. Great. Okay. Well, thank you all very much. I must apologize to to one investor. I I appear to there was a question that came in. I appear to have lost it. I'm not sure I've done that, but if your question wasn't answered, I'm afraid that's probably my fault. So thank you, Gary, Pete, John, for for your update today. Could I ask investors not to close this session? You'll be automatically redirected for your opportunity to provide feedback. If you access this meeting from the website, the feedback page will appear. If you access from a link sent by email, you'll be asked to log in to submit your feedback. If anyone has further questions or would like additional information on SOLID STATE, please do get in contact via solidstate@warbrookpr.com. Thank you very much for attending. Hope we'll update you again soon. Thank you. Thank you. Thank you.