Flowtech Fluidpower 2016 Annual Report
Bryce Brooks, Chief Financial Officer, Sean Fennon, Chief Executive Officer,
We have a relentless attitude to growth by organic and acquisitive means, backed up by our four-layered approach to extracting synergy gain over the short, medium and long term. Our targeted approach ensures we can achieve both a concentration and enhancement to our product set – which lies at the centre of our business model – entirely focused on fluid power.
Chief Executive Officer
* All results relate to continuing operations
† Underlying operating result is continuing operations' operating profit before acquisition costs, amortisation of intangible assets, share-based payment costs and restructuring costs.
We are very pleased to again report a period of significant progress in the scope of our activities as a Group, with an uplift in revenue of 20% (2015: 19%), a 11.8% increase in operating profit, and 9.5% improvement in underlying operating profit (2015: 12%). The movements in underlying operating result by segment are detailed below. A reconciliation of underlying operating profit to operating profit in the consolidated income statement is detailed in the segmental analysis note (see note 4). The separately disclosed items which represent the bridge between the two amounts have remained consistent at £1.3m.
A year ago, we announced strong growth figures underpinned by an active acquisition programme, against a backdrop of a market with headwinds making organic progress challenging. Twelve months down the line we have a similar message, but this time we can add material currency movements which rapidly increased input prices across our product portfolio when sourced from Europe or the Far East, and a further knock on effect into market confidence.
We therefore believe that the result achieved is further justification that our focused approach in maintaining strong gross margins, while developing market share and commercial synergy by acquisition, is creating an expanding and resilient platform for long-term profitable growth.
One of our most important KPIs remains Gross Profit %, and it is also pleasing to report that in 2016 we were able to increase margins in each of our divisions, with an overall improvement of 130 bps as shown below:
Following the Brexit result in June 2016, the latter part of the year was dominated by the movement in currencies and the subsequent issues around pricing. In this regard, the Group is split into two separate and distinct pricing models:
Flowtechnology Benelux Team
Hydravalve Trade Counter
Since 2014 we have developed a capacity to identify, acquire and integrate complementary businesses in line with our channel strategy, both in the UK and Europe. This strategy has included the development of a Service Centre team structured to support the operations and remove back-office processes, as well as the new development of a Shared Logistics Centre.
All the acquisitions to date (totalling 7) have been integrated quickly into the Group, with retention of brand identity, reputation and customer relationships being critical. The Group philosophy therefore is to maintain the acquired business' branding and help enhance it.
Following this simple initial integration, a focus on synergy gain has a four-layered approach:
The Flowtech Group now operates three divisions: Flowtechnology, Power Motion Control & Process. This structure has delivered greater opportunity to focus on fluid power solutions while at the same time, developing a deeper technical expertise within our complementary businesses; specialising our offering in the fluid power sector and, delivering high service levels to all our customers across our business. This formulation gives us a solid platform for growth as well as opening and creating new opportunities in new and exciting sectors.
The underlying operating result* can be summarised as follows:
* Underlying operating result is continuing operations' operating profit before acquisition costs, amortisation of intangible assets, share-based payment costs and restructuring costs.
Flowtechnology turnover(2015: -2%)
Flowtechnology operating profit(2015: +2.9%)
Flowtechnology underlying operating profit(2015: +2.4%)
A highlight during the year was when the division acquired a direct UK competitor, Indequip, with a plan to retain the clear identity of the business as a separate trading brand under the leadership of Managing Director, Ian Simpson, whilst at the same time integrating the operational side of the business fully into the logistics infrastructure of the rest of the group. We know that Ian and his team initially viewed the acquisition by the Group with a sense of trepidation. However, in Ian's own words, "the move has proved to be a springboard for the reinvigoration of the Indequip business and has set it off with new impetus to develop and grow". Indequip's new catalogue arrived in December, prepared with the input of the Group's creative services team, and this was released in January to a very positive response. In 2015 Indequip was struggling, with resources being limited and the efforts of an energetic and well-lead team being stifled. Today, confidence is renewed with a clear focus on the future as part of a retained trading style as part of the Group.
As a result of the general market difficulties previously described, volumes within the original Flowtechnology UK business have been under negative pressure, but our clear focus is to ensure we retain strong gross margins and a high service offer. Continued work on our "Data Repository" will also begin to deliver benefit in 2017, with a new web trading platform launched in March.
The Benelux market remains buoyant, with the short to medium term outlook encouraging. Having previously been fixed on the value of Global Brands, the region has become open to change, and this has allowed the Flowtechnology operation to promote our Exclusive Brands, all developed within the wider Group – a move which has begun to show positive benefits in both revenue and margin growth. The continued re-sourcing work carried out in conjunction with our purchasing group should allow Flowtechnology Benelux to develop its position further over the coming year and increase its market penetration, particularly in the hydraulic segment where the business has previously had little activity.
PMC turnover(2015: 197%)
PMC operating profit(2015: 209%)
PMC underlying operating profit(2015: 233%)
When the Group came to market in 2014, the creation of a Power Motion Control division, based around the supply of hydraulic components, hose assemblies and systems to a largely OEM customer base, was a key part of our strategy. PMC now has four trading "brands" operating from six sites across the UK and Ireland, with a current total revenue of over £20m – all under the leadership of Nick Fossey who joined us in March 2016.
With the full year effect of the Nelson and Albroco acquisitions from early 2015 now evident, backed up by a consistent performance from Primary, the division has made encouraging progress against a challenging backdrop for volumes and margins. In 2016 and now 2017 the addition of TSL and HTL adds to the portfolio, now supported by a newly established cross-selling team. From a standing start in 2014, the division is now established and growing.
Compared to the UK, the wider Irish market in which Nelson Hydraulics operates has remained relatively buoyant. This has enabled Nelson to consolidate its overall market share and gain business from its customer base. The Irish OEM export market appears to be holding up well moving into 2017, with market optimism being driven by the weak pound and the strong export opportunities.
We welcomed Hydravalve to the Group in March 2016, as the start of our Process division focused on developing our presence in broader markets for valves and actuation. Core product areas have strong overlap with Far East supply in Flowtechnology UK and this has allowed the two operations to combine purchases and obtain significant price advantage which will assist in underpinning margins in 2017 and beyond. Based in Willenhall in the West Midlands, Hydravalve is also now diverting generic product from direct supply and instead is sourcing using the SLC in Skelmersdale. Managed by the former owner Andy Newham, Hydravalve is now well established and has proven to be an excellent cornerstone acquisition for the Process division.
In order to add clarity to our reporting process we now provide further stratification on this cost area to illustrate how the acquisition programme can develop with only a limited increase in central costs to support this. The three areas now identified are as follows:
Commercial – being Creative Services (catalogue design and marketing materials production) and Marketing departments, and as a main addition in 2016 a new sales resource.
Finance, IT and Management – which includes the employment costs of the executive team. During the year a bonus was paid to the Executive team totalling £113,000 in recognition of progress made by the Group since 2014, with the balance being the development of the necessary team to support the growth programme for the long term, including the recruitment of the PMC Divisional Managing Director, Nick Fossey.
PLC – being non-executive director costs, broker and legal fees, and all other costs relating to the operation and marketing of the public company. Finncap were appointed as joint broker with Zeus Capital in January 2017.
The total cost for the year of £419,000 represents 9.5% (2015: 3.8%) of the total consideration paid for acquisitions (as detailed in note 25). This includes both the transaction cost, including legal and professional fees, and the cost for post deal IT and Finance integration, and we believe this again represents a fair cost for transactions of this type.
Restructuring costs incurred during the year of £84,000 (2015: £323,000) primarily relate to relate to the redundancies in administrative functions following acquisition, as well as a streamlining of the Group following advice from our legal and tax advisers.
The tax charge for the year was £1.1m (2015: £1.1m), with an effective tax rate of 20.3% and a blended tax rate based on the geographical regimes of 19.5%.
The net debt position at the year-end was £13.10 million (2015: £9.0m). Under the debt facilities extended in 2015, our revolving credit facility agreed with Barclays Bank plc for up to £15 million, is now fully available but with ample headroom under a comfortable covenant headroom. Cash inflows of around £9.6m under the recent placing have also now been received, which leaves the business lowly geared and well positioned for further investment in the immediate future.
In late 2015 the Group took the strategic decision to increase order values from some of its Far East suppliers, with a view to obtaining better pricing in a softer market at the time. This has assisted the drive to retain gross margins in the difficult markets experienced in 2016, but this has meant that overall stock holding levels have been above optimum with broad stock turns across the group of around two. From 1 January 2017, a new "profit sharing" scheme has been introduced across the Group that operates at local level, and as well as remunerating staff members for profit growth, an added element can be obtained for improvements in returns achieved on overall working capital management – with stock at its core. Whilst always being mindful of not undermining service levels, a long-term drive towards stock turns of 2.5 to 3 is being targeted, and as the group expands with each acquired business as well as organic growth, we believe this is achievable in the medium term. Any cash released will then be re-invested in further growth. With debtor collections consistent (the total charge for bad and doubtful debt related issues was £67,000 (2015: £62,000), representing only 0.12% of turnover) and increasing supplier terms being negotiated, a focus on the management of working capital is at the forefront of the Group's thinking.
As previously described, the Group is able to take a flexible approach to currency risk management, as other than some smaller elements of its PMC business with OEMs, it is not involved in fixed price sales contracts. This has obviously been tested vigorously since the Brexit decision. Whilst there have been some learning points, we have again gained confidence that sales pricing can be flexed as cost prices change and the Group will continue to operate in this manner, as a focus on moving pricing to match market conditions is believed to be an important aspect of our offer.
In addition, the Group derives income streams from its Benelux and Republic of Ireland operations. In order to fix the value of these profits, the Group continues to maintain foreign exchange contracts on an annual basis for the estimated euro value of these contributions. In 2016 this contract resulted in a loss of £73,000 (2015: gain of £18,000), which is accounted for within net financing costs, and this year is to some degree countered by the increased "value" of the respective income streams on conversion.
Each year of growth brings with it the advantage of an expanded management team, each with new focus and skills that can be used to further enhance our wider activities. Managing Directors appointed during the year include Ian Simpson at Indequip; Andy Newham at Hydravalve, ably supported by his sons Andrew and Edward; Steve Rushworth at TSL, and most recently Kirk Duncan and Alan Willis at HTL.
Our quarterly Operational Board structure is now divisionalised with bi-annual cross group meetings. Finally, the full PLC board led by Malcolm Diamond performs an in-depth assessment with each business as part of an annual forecast process.
The Board is very encouraged by the progress made during the year. However, we are keenly aware that none of this progress is achievable without the continued commitment and effort of all our employees – in both the "founding" Flowtechnology businesses, and all our "new" colleagues in Primary Fluid Power, Nelson Hydraulics, Indequip, Hydravalve, TSL, and now HTL. We believe the team ethic that is being created across the Group is allowing us to build for the long term.
The Board is very encouraged by the progress made during the year. However, we are very aware that none of this progress is achievable without the continued commitment and effort of all our employees – in both the "founding" Flowtechnology businesses, and all our "new" colleagues in Primary Fluid Power, Nelson Hydraulics, Indequip, Hydravalve, TSL, and now HTL. We believe the team ethic that is being created across the Group is allowing us to build for the long term.
Chief Financial Officer
We have entered 2017 with renewed confidence. Our acquisition of HTL in January 2017 adds a further element to our customer and supplier base and, on the back of our recent £10m capital raise, the Group has the financial scope to support this confidence.
We have a relentless approach to growth by organic and acquisitive means, backed up by our four-layered approach to extracting synergy gain over the short, medium and long term.
Our targeted approach ensures we can achieve both a concentration and enhancement to our product set – which lies at the centre of our business model – entirely focused on fluid power.
4 April 2017
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