Solid State (LSE:SOLI) — Results for the six months ended 30 September 2020

0:13 Good afternoon ladies and gentlemen and welcome to the SOLID STATE PLC interim results presentation. To start with, if we could cover a couple of housekeeping items. 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 dialled in via solidstatewarbrookpr.com. The company may not be in a position to answer every question it receives during the meeting itself. However, the company will review all questions submitted today and publish responses where appropriate. These will be available via your Investor Meet company dashboard.

1:01 Finally, we would like to remind you that this presentation is being recorded.

1:06 We anticipate that there will be some newcomers to SOLID STATE so we will take a couple of minutes at the beginning of the presentation to introduce the business. I would now like to hand you over to Chief Executive Gary Marsh Group Finance Director Peter James and Matthew Riches Managing Director of the Steer Type Division. Gary? Thank you Tom. I'd like to thank you for taking the time to attend our presentation this afternoon. Since our preliminary results at the end of July, we've seen some great momentum in following through through IMC. So, whether you're an existing shareholder or attending our presentation for the first time, I hope you find it informative and I look forward to the three of us answering your questions at the end of the presentation.

1:53 We've built a reputation for supplying trusted technology for demanding applications. We focus on four core areas which is computing, power, communications and electronic supply and these generally aren't the core competencies of our customers. Safety, quality and reliability are paramount to our customers and that could be in rugged computer systems for washing operations or battery packs for robotics or antenna systems for Met Office Weather radar. We've got a deep knowledge in our chosen fields, providing impartial consultative product selection and as a trusted partner we provide reliable long term supply and strict revision control. And our Supplies Division follows very much that same philosophy taking the time to solve customers' problems through its technical staff, resulting in higher designing levels for our franchise suppliers and increasing the value of distribution to our customers.

2:51 We'll now show you a short video. It is short two minutes, four seconds, but hopefully it'll give you a better feeling and overview of the group and what we do. SOLID STATE PLC is a high value add manufacturer and specialist design and distributor to the electronics industry We do the difficult things small companies can't do and the large manufacturers don't want to do. SOLID STATE PLC has delivered double digit compound growth organically and through acquisition since it was admitted to AIM in 1996. The group has the operational infrastructure and its centers of excellence to deliver material growth with modest additional investment.

3:38 We are increasing our margins through integrating into the value chain. Our enhanced capabilities in value added distribution and manufacturing provide a comprehensive offering to our customers seeking a design led solution and gives the group diversification and resilience. The Manufacturing division delivers technology in the computing, power and communications sectors. We deliver products that operate in the harshest environments on land, sea or air where reliability and safety are critically important. The distribution business focuses on providing leading edge products to customers. We provide value added services and technical support together with wide ranging commercial solutions Our strategy has three key elements to invest in our people to maintain technical knowledge and remain at the forefront of the electronics industry Secondly, to target strategic acquisitions which are aligned to our core capabilities and finally, to continue to develop our strategic partnerships with our customers and suppliers

4:44 We have built a proven acquisition track record over more than a decade Through future acquisitions we will continue to target structural growth markets We are confident we have the capabilities and the strategy to deliver strong growth over the coming years.

5:19 So, are we winning? We're continuing to invest in business development and design resource in our optoelectronics and power business units and that's really to enable us to scale products and increase the customer product capability we have. Evaluated Supplies of franchises continue to innovate and remain at the leading edge of their respective technologies, for example providing solutions in five gs and the emerging LoRaWAN networks. In both computing and supplies, we're working on new AI applications, for example in concepts for autonomous quarry trucks and, at a more advanced stage, intelligent ultrasound. Our structure provides a stable platform to grow we've got now more than 1,500 account customers across the group and that gives us resilience and diversity.

6:12 We're supplying a broad base of products to a wide range of market sectors and that certainly stood us in good stead in the last six months. Since lockdown, SOLIDTA collapsed one of our franchise suppliers on supply the side of the business, has completed the acquisition of Redpine and have transferred all the distribution customers in The UK and Ireland to SOLID STATE Supplies, which will be worth around $2,000,000 to us each year as, unlike our competitor, we didn't furlough our field sales team.

6:46 The resilience of our business model has really shone through, in this period. It's probably been one of the most challenging trading periods in the group's near fifty year history. Following a record year last year, revenue was comparable period on period, down only 1.5% which is a really good result. I think if somebody had offered me this set of numbers as we entered lockdown in March, think I'd have grabbed them with both hands. We're very pleased with the performance. So, EPS likewise was stable, down less than 8%. We didn't suspend dividend payments in the first half of the year, paying a final dividend of 7.25 p in September. And given we've got a strong cash position and good continued cash generation, we're going to be maintaining last year's interim dividend of 5.25p that we'll be paying out in February.

7:40 So, today the business is in great shape with the right technology for our growth markets, providing us with a strong platform to return to growth during next year. I just want to cover something on the open order book. Understandably, we saw a softening in that order intake during the early part of the financial year, together with a shortening of order schedules, but since September we're beginning to see an improvement in the trend in the near term order intake. We monitor as one of our key performance indicators clearly our open order book and the three month trend in order intake, the rolling three month trend has certainly improved since September, so that's pleasing to see.

8:28 Our diverse technology portfolio means we're well placed to service high growth markets in IoT, edge connected computing and battery power and in this presentation we'll talk you through development in a couple of our target markets.

8:44 Here we'll highlight green tech and transport and finally, we'll cover some areas that we're going to be investing for the future. We've restarted our CapEx investments and having briefly paused M and A. We've reengaged with our pipeline of acquisition targets and I'm pleased to say we've made some really good progress in the last few months and we'll come on to that later. So, I'll hand you over to Peter now, who'll talk you through some of the numbers. Thanks Gary. So, first off, pleasingly we've reintroduced, or the analysts have expectations for this year and consensus revenue for the full year is £65,000,000 and adjusted profit before tax of £4,400,000 Moving on to our first half results, revenue has been comparable with last year, which was a record year for the group.

9:38 Particularly pleasing was value added supplies, where we managed to match last year's revenue at £19,500,000 There was a slight downturn in our manufacturing division, however pleasingly that's been mitigated by slightly stronger gross margins. So a key profit metric for us is the adjusted operating profit, which you can see has been resilient there at just shy of £2,600,000 and pleasingly our operating margins slightly ahead of the full year run rate of 7.2% at 7.8%, albeit very slightly behind last year's record start at 8.1%. That translates into reported profit before tax being up a couple of percentage points and EPS of 25.6p, which, against a consensus expectation of just over £43 is a good start to the year and puts us in good position for the full year.

10:38 In terms of the balance sheet, we can see our cash position has continued to build as we've been cash generative and the profits have been converted into cash. And that's given us the confidence, as Gary said, to maintain the interim dividend 5.25p. Looking at the detail of the balance sheet, you can see the non current assets have increased. That's actually reflecting some extensions to premises leases we've signed in the period in Redditch and Crewkern. So we've increased our lease assets and our long term lease obligations. Inventory probably most importantly is actually slightly down from a peak at the year end. However, that's relatively short term as we are seeing lead times extend and ahead of Brexit, we are positioning stock to ensure we can supply our customers.

11:30 I think our strength of balance sheet puts us in a good position to do that, where some of our smaller competitors may not be. So, we view that as an opportunity in the latter part of this year and going into next year. As I mentioned, we've got £4,000,000 of cash on the balance sheet and we've got an unutilized revolving credit facility, which positions the group in a strong position to undertake the capital investment programs. Gary's got a slide where I'll bring a bit of detail on that a little bit later and certainly the M and A program, hopefully we'll look to restart that as well. In terms of cash generation, at year end we benefited from some Covid cash conservation, with underlying cash conversion being at 166%.

12:15 That we've been able to unwind in the first half of this year, which is pleasing, reflecting continued positive cash generation for the group. And if we look at the cash flow there, you can see the CapEx in the first half as part of that cash conservation was pretty modest. As I've alluded to, we have restarted our CapEx programme. There's a couple of programmes, one on each side of the manufacturing and failure added supplies division that we're about three £250,000 in the second half. So, will see that come through in the second half of this year. But we're pretty pleased to have been profitable cash generative and in a position to maintain our dividend.

12:55 I'll just hand over to Matthew, who will give you a bit of a flavor for some of the markets and the opportunities going forward. Yes, thanks Peter. So our strategy to provide technology, products and solutions that enable and target structural growth markets, clearly the significant markets here, namely medical, transport and defence, in which we're strong, benefit from core government funding priorities. So, that's helpful to us. I daresay you're aware that the government has made a number of announcements of late, not least the 10 plan for a green industrial revolution. So, green tech being the foundation of that plan and underpinning it by definition. In addition, they've pledged to increase defence budgets by £16,500,000,000 over the coming four years to over £40,000,000,000 per annum. The key there though is the focus on cyberspace and cutting edge technology, so more aligned with our technology strengths and less so on boots and bullets.

14:01 For us, it's again a helpful trend. By way of example, in the space sector, a space level diode that we supply at a commercial grade, that's a $3 item. It rises to $9 at an industrial grade to $26 once it's in a military environment and $230 at space level. So, that's where we are looking and driving value. We have seen in the current pandemic, government and industry continuing to invest in medical as a priority with portable power solutions. For us, that means applies to products we supply for respirators. Forced We provide the power solutions for that. Medical applications of AI, medical detection, sensing components are all growth opportunities for us.

14:53 Robotics and autonomous vehicle applications, again incorporating into artificial intelligence, are growing substantially in defence, transport and in industrial. So again, more opportunities there. By way of a couple of examples, we're presently working with a customer using artificial intelligence to improve the accuracy of cameras used to monitor traffic lights. Now, some of you that have been on previously, we've talked of that, but that whole technology is evolving quite rapidly. Now they're using edge computing to measure the speed of the vehicles running the red lights and just jumping the red light in particular. Another opportunity that it's more of an early stage is a project to supply NVIDIA graphic processors to accelerate the development of deep learning computing and that's solving autonomous driving in dense urban environments.

15:49 We're providing the computing core for that application. If I could ask thank you, Pete. What you're looking at there is just one of the target markets that Gary referred to and I mentioned above, transport and here specifically rail. For our target markets, as part of a group wide strategy, we're working across divisions. Historically, we've been somewhat stovepipe. We're coming together to ensure that we can maximize these opportunities with joint marketing and business development material and working from component level right through to subsystems. An example of a component device is an accounting module that can count people on and off a train, displays rugged routers that are on the train and track side and up to and including CCTV systems that are rail certified.

16:45 Those that know us for bold will be aware of our work on ticket printers on board trains and now we're involved with battery power solutions and energy storage for emergency lighting. Now, these applications here are rail based, but it applies equally to a bus or to an extent in aviation. Just a little bit more color, we have a relationship with a major multinational prime computing prime that we're partnering with them on the CCTV system. That is actually for driver only operated trains. But what's exciting for us is now developing that relationship to look at an energy storage application for a net zero requirement. So quite different technologies, but one customer and one end market.

17:34 So in short, each of our divisions are winning by having more feet on the street, more sales guys, greater customer intelligence and sharing of knowledge and better and deeper customer penetration all the benefits that come from that. If you flick to the next slide, Pete, Thank you for that.

18:00 You just flick over. Yes, thank you, Pete. So what you're seeing there is the GreenTech example. It's from within our power business unit, part of the manufacturing domain that I'm running. We are witnessing now a transition from the carbon economy to net zero objectives. We've been successful to secure some funding from Innovate as part of that evolution. We're not abandoning and forgetting our long standing customers and traditional customers in aerospace, oil and gas and certainly medical, but we are now responding to some new interest which we're developing fossil fuel replacement initiatives, replacing carbon combustion engines with battery solutions.

18:50 Battery solutions for traditionally mains powered applications, so removing the cable from the wall, having battery power. And the third area that's exciting and emerging is autonomous technologies, so drones that might deliver pharmaceuticals to a distant location, not just overseas but trialing projects in The UK for the multitude of other applications in robotics for land and sea. As we are subject matter experts, we offer solutions we build on the screen there, you go from the individual battery, the cell as we call it, through to the pack, through to the management system, the motor controller and potentially even the motor itself to

19:39 develop that carbon free drivetrain. We will always have and will continue to focus on the harsh environment, high reliability applications that encompass now green tech and autonomy. This example is a non road mobile machine, you can see wood chipper, frankly, but we're also active in agri tech and construction. Now the battery business itself, this is public domain information, is growing rapidly. We partner with LG and they project that sales of batteries will grow from something in the order of £50,000,000,000 this year to £126,000,000,000 within four years. Now that is, to an extent, almost an alarm bell for Us commoditization and it is true certainly and not least in the automotive sector with a falling price per kilowatt hour.

20:33 But we will remain in those niche applications where we can add value

20:39 that are themselves growing so that will stick with our original core strengths and we'll carry on in that vein. So I'm going to hand back to Peter now who will pick up on the next slide.

20:57 Established a foundation which has enabled us to deliver the profitable performance in this year, in spite of the challenging conditions. Four years ago when I joined, we'd just acquired the Crew Cairn facility where we centralised our power business unit that Matthew's just been talking to. We invested in a new facility for our communications division in Leimster and both of those two investments freed up capacity in Redditch to enhance and give us scalability for our computing offering in Redditch. In 2018, we completed the acquisition of Pacer and that brought us optoelectronic components into our supplies division and also brought us an assembly facility down in Weymouth.

21:42 On our later slides, you'll see an image of that and that's a really world class facility, which has really added to our offering and enables us to do optoelectronic sub assemblies. So the combination of those foundations has meant we've been able to deliver resilient performance in pretty tough trading conditions, and that's enabled the board to maintain our interim dividend. And we feel that makes us an attractive proposition for investors both institutions and smaller investors as well. Thank you Pete. Across the group, we've commenced a significant capital investment program. Peter mentioned it's probably going to be just over £750,000 above our run rate average and that's on both sides of the business. So, manufacturing, we're going be establishing our own in house CMC test capabilities.

22:39 When completed, that will give the group the full suite of test and measurement facilities. Reasons for that really are demand from customers for that test and measurement capability, but also it will improve productivity rather than outsourcing our test and measurement. We're going to bring it in house, which will improve our margins and improve our productivity. In value added supplies, projects have restarted with investments in a new wire bonder and semi automated bonder there for our class seven clean room that you can see in the part of that in the photo there. And this will enhance the capability of supplies to deliver more premium optoelectronic assemblies.

23:27 Again, we're getting good traction from some of our medical customers to offer premium products and premium assembly, so that will be put to very good use, again improving productivity and reliability. So, together these investments mean we can deliver a more integrated customer solution, it will differentiate us from some of our competitors, while continuing that drive, as I say, to improve our margin performance.

23:55 Just to talk you through on M and A, we paused this as we entered lockdown we felt that was the most prudent thing to do. We've now re engaged with our pipeline of M and A targets. We're going to be focusing really in two areas internationalisation of the group, particularly in The EU and The USA and the acquisition of additional products, technology, IP and know how, which will accelerate progress in our target markets, a couple of which we've spoken about to you today. SOLID STATE is debt free, we've got cash in the bank and an unutilised revolving credit facility of £7,500,000 as Pete referenced earlier. So, we're well placed to support our acquisition strategy.

24:50 Our business models demonstrated resilience during the pandemic and were established almost fifty years ago. We're proud of the track record having paid a dividend every year since we joined AIM in 1996. We've consistently been cash generative over this period, with modest CapEx needs across the group and our structure provides a stable platform. We've now got more than 1,500 account customers in total. That really does give us some resilience and diversity, which I think we've demonstrated during this difficult period. We supply a broad base of products to a wide range of customer market sectors and no single customer represents more than 10% of group sales. During the pandemic, we've found it invaluable having decentralised production close to home. It really did help with communication with colleagues and that resulted in absolutely no downtime at all in any of our production locations.

25:49 And we've continued to deliver resilient EPS performance in the first half of the year, is important and we're pleased with that. So, our technology and customer offering is well aligned to the evolving applications in 2021 and beyond. We've demonstrated we're well positioned to take advantage of strategic growth markets and diversified business model gives us real resilience when markets are challenging as they have been in this prior period.

26:23 We've got a strong financial footing to execute strategic M and A and our investment opportunities and we'll continue to drive that cross group collaboration we've mentioned earlier. That's really paying good dividends for us, but our focus for growth remains in technology for demanding applications.

26:43 Thank you. I'm happy to take questions now. Great, thank you Gary, Pete and Matthew. Now if we could turn to the questions. We have a number of questions that were submitted ahead of the presentation. However, please do continue to submit your questions using the Q and A tab situated on the top right hand corner of your screen. I'd 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 dashboard on the Investor Meet company platform.

27:15 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. While you're submitting questions, let us first have a look at those that were submitted ahead of the event and possibly this is one for you Gary, very topical. What effect would a no deal Brexit have on SOLID STATE? We've been working very hard on this. We have two steering groups on a no deal Brexit on both sides of the business, clearly talk to each other, working on the effects of tariff codes. Obviously, we import quite a lot of product outside of the EU, so we're well used to dealing with tariff codes. But we've calculated that and it's a no deal Brexit will probably increase tariffs to us, but around about £100,000 a year. So not ideal, but certainly not a major effect on the group.

28:16 The biggest issue probably is going to be increased administration if that was to happen. We've got one master franchise that we have for the whole of Europe, that's about £600,000 a year of revenue in our supplies business.

28:34 And we're looking to mitigate the effect of a no deal Brexit there by possibly opening up a small warehouse in The Republic Of Ireland. We have a legal entity over there and staff members. So that's something we can do to mitigate that. But the issues around obviously you've seen the likes of Felixstowe, courts grinding to a halt. We've worked hard on pre positioning stock there. We've got the balance sheet strength to do that. And as Pete mentioned, stock will be rising as we look to compensate for that. So we've worked hard on that and we're well placed whether we get a deal or no deal. Great. Okay, thank you, Gary. A question on margin, which I suspect is for you, Pete. Given the value added proposition of the products eloquently described, it seems it would not be unreasonable to expect double digit operating margins.

29:31 Why is this not the case?

29:34 In terms of our mix, we have a mixture of our value added supplies Our manufacturing division absolutely does have double digit operating margins. I think as a group there is absolutely opportunities to build from where we are today. I think high single digit is absolutely a realistic ambition with the current mix of business we have. There's room for further improvement, we've improved over the last eighteen months and we hope to continue to do that further improvement in that area. Okay, great. We've got quite a lot of questions on M and A, so I will actually combine a couple of them because I think this is probably for you Gary and there's a topic you can talk around a little bit.

30:27 Two questions which I'll bring together. The first is M and A. Are you looking at UK companies selling into The EU US or foreign based firms?

30:36 And if I can combine that with what kind of size of acquisition are you looking for? And do you have preferred territories you would focus on first so they're aligned? The answer to the first part of the question is both. The safer option, especially COVID and some restrictions in travel, be to find a business that was UK based but had overseas operations. But we are looking also at a larger acquisition that would be based in either The EU or The US. So that's both in that case. Sizes vary on that. It could be anything from a revenue around 5,000,000 right the way up to in dollar terms, to $50,000,000 for a larger acquisition and we're looking at everything in between. It's for us, it's about finding the right fit. There's obviously a certain level below which we wouldn't go as it as it won't really move our numbers. But key thing is finding the right products for us or getting us into a new market as we did with Pacer that got us into the medical market.

31:46 It's something where we can cross sell. So we're, we're open minded onto the size of revenue of the business. Okay, so and there are two others here that are also combined because I think they relate. But the first part of the second element of the M and A question is what changes have you seen in competition now you're looking at M and A and what effect is that having on valuations? And I'll just combine it, if I can, with one preset question that we had, which was are you able to progress your acquisition strategy with the evident restrictions imposed by COVID? I'll take the last point first. Certainly the Government have recently relaxed travel restrictions for business, so that's good for us. We'd obviously be very, very careful about how we go about that, but that's helpful.

32:38 On the first part, are still seeing competition with good businesses. PE market is still very strong. We've got a mixture of targets, some but we were talking before the pandemic struck aren't willing to come back to consider a sale as yet. Others are, others are concerned about potential changes in tax legislation around CGT, certainly for more owner managed businesses. So there's a real mix there, but valuations for good businesses are remaining strong. Great, okay super. A very brief question here but an important one for you Pete. Are there any future plans or CapEx?

33:28 The CapEx plans Gary talks about are really key investments on both sides of the business. Those are the two really significant programs. Beyond that, there's nothing substantially committed. We feel we're well placed, as Gary said in the overview. We've got the foundations. We don't need huge investments beyond that. So we believe we can scale the business without significant further CapEx. Okay, and actually Pete, if I could just put this one to you as well. Are there any lessons learned from COVID that help going forward? Yeah, it's been pretty, yeah, there's been some pretty significant changes to the way we operate, like a lot of businesses, everyone's working from home.

34:14 We've seen some good reductions in travel costs from a financial perspective. That said, I think, yeah, we will reinstate travel. There will be more face to face customer meetings, but actually an awful lot of technology like this platform and Teams and Zoom and the like have been incredibly beneficial. We found new ways to engage with customers, which we hadn't done in the past. And a lot of the sort of design in work we do, the Zoom platform and Teams has enabled us to bring experts in to the meeting real time, and respond and address customer needs very much more efficiently than we would have previously, where you might have rearranged the follow-up meeting. So, I absolutely think there are things that will stay, but we absolutely will also go back to more face to face meetings with customers as well, when we all benefit from a vaccine and hopefully a little more normal life returning.

35:15 Thank you Pete, that's great. Okay, well look, that's been a really fantastic update and thank all three of you for updating investors today. Could I ask investors not to close this session as you will now be automatically redirected for the opportunity to provide feedback. If you access this meeting from our website, the feedback page will appear. If you accessed it from the link sent to you by email, you'll be asked to log in to submit your feedback. If anyone has any further questions or would like additional information on SOLID STATE, please do get in contact via solidstatewarbrookpr dot com. Alternatively, I hope we'll get to update you in the not too distant future. Thank you all for attending.