Business Review

 

Introduction

Hill & Smith has continued to perform well in the six months to 30 June 2015.

 

Infrastructure investment in our key UK and US markets continues to be strong, underpinning the performance of our operations in Roads, Utilities and Galvanizing. Improving returns from the UK operations resulted in them generating half of the Group's underlying operating profit in the period (2014: 43%). The diversity and strength of our businesses within their respective markets continues to underpin our performance, which has shown improved underlying operating margins across all three divisions.

 

Results

Revenue increased by 4% to £233.0m (2014: £223.8m) with no material currency translation impacts. Adjusting for a net revenue reduction of £2.4m arising from acquisitions and disposals, organic revenue grew by £11.0m or 5%. Underlying operating margin improved to 11.3% (2014: 10.1%) with an underlying operating profit of £26.3m (2014: £22.5m), including favourable currency translation of £0.5m and a £0.7m benefit in respect of acquisitions and disposals. 

 

Underlying profit before taxation at £24.8m was 19% higher than the previous year (2014: £20.8m). Despite the strong underlying trading performance, statutory profit before taxation reduced to £7.1m (2014: £16.0m) reflecting the one off, non cash impairment of goodwill and intangible assets relating to the 2011 acquisition of The Paterson Group, Inc., amounting to £15.8m.

 

Underlying earnings per share at 24.2p was up 19% compared to the previous year (2014: 20.3p). Basic earnings per share was 5.6p (2014: 14.6p).

 

Net debt fell to £89.2m (31 December 2014: £96.0m; 30 June 2014: £98.5m) including a beneficial currency translation impact of £1.4m.

 

Dividend

The Board has declared an interim dividend of 7.1p per share (2014: 6.4p), representing an 11% increase on the corresponding period last year. The interim dividend will be paid on 5 January 2016 to shareholders on the register on 20 November 2015.

 

Outlook

The Group continues to benefit from the industrial and geographical spread of its markets and businesses, which provide a resilient base as well as opportunities for growth. Generating 82% of revenue and 92% of underlying operating profit from its UK and US operations, the Group principally operates in markets where the overall economic outlook remains favourable. This, coupled with the implementation of strategic initiatives to fuel higher returns from the Group's portfolio, provides momentum to our drive for increased shareholder value. We do however remain mindful of the challenging comparators from our record second half earnings performance in 2014, the continued market weakness in mainland Europe and the general global economic uncertainty.

 

Overall, our encouraging performance to date has been in line with expectations and, with a marginal bias to the second half, we continue to expect 2015 to be a year of good progress for the Group.

 

Operational Review

Infrastructure Products

	£m		/- %	Constant Currency %
	2015	2014
Revenue	163.4	158.7	3	2
Underlying operating profit	12.5	10.0	25	23
Underlying operating margin %	7.6	6.3

 

Overall revenue increased to £163.4m (2014: £158.7m) including a £1.5m positive impact from exchange movements. Organic revenue growth was £5.6m, or 4% at constant currency.

 

Underlying operating profit was £12.5m (2014: £10.0m), an increase of £2.5m, including a positive currency translation impact of £0.2m. Operating margin improved to 7.6% (2014: 6.3%).

 

 

 

 

Roads

	£m		/- %	Constant Currency %
	2015	2014
Revenue	64.6	59.3	9	13
Underlying operating profit	7.3	5.4	35	35
Underlying operating margin %	11.3	9.1

 

In the UK, the implementation of the Department for Transport's Road Investment Strategy ("RIS") is progressing as planned. In April, Highways England was formed (previously the Highways Agency) as a Government owned company with the objective of delivering a transformational investment plan in the nation's strategic road network. The RIS aims to provide certainty of road investment funding over the period 2015/16 to 2020/21, improve the connectivity and condition of the existing network and, importantly, increase capacity, with projects that will deliver 1,300 additional lane miles. The focus of the drive to add capacity will be additional 'Smart', or managed motorways, which is at the core of the Group's product offering in the UK.

 

Demand for permanent and temporary safety barrier continued to be strong and utilisation of our temporary safety barrier rental fleet was high. Our bridge parapet safety product also experienced higher volumes compared to the prior period. Utilisation of the temporary safety barrier rental fleet is currently forecast to soften during the summer months as major projects complete before new ones are ready to start. However, utilisation is expected to return to higher levels by the end of the year and through 2016.

 

The integration of Variable Message Signs ("VMS"), acquired in July 2014, has progressed to plan and the combined organisation has a wider product offering to support Highways England in its roll out of its Smart motorway programme. During the period VMS won contracts for the supply of remote control temporary traffic signs on the M1 and M3 motorways as part of the enhanced safety initiative by Highways England, and its order book remains encouraging for the second half.

 

Despite lower volumes following the completion of PFI projects, our lighting column business performed exceptionally well with profitability similar to the prior period. The strategy of diversifying both products and markets continues to deliver significant benefits.

 

Outside the UK, our Scandinavian business performed well with profitability ahead year on year despite adverse currency movements impacting its competitiveness on imported Group products. The outlook in the Scandinavian market remains favourable and we have recently invested further in the business to expand its range and depth of products. Despite the evident market opportunity, the performances of our other international businesses in France, USA, India and Australia remain disappointing with overall profitability behind the prior period. The French lighting column market remains difficult due to over-capacity and a weak local economy. In the USA, Zoneguard, our temporary safety barrier, continues to gain acceptance among contractors but progress remains slower than expected. India and Australia remain 'start-up' businesses with the opportunity for growth in niche markets and we expect to see an improved performance over the next twelve months.

 

Utilities

	£m		/- %	Constant Currency %
	2015	2014
Revenue	98.8	99.4	-1	-4
Underlying operating profit	5.2	4.6	13	8
Underlying operating margin %	5.3	4.6

 

Revenues were marginally below the prior year at £98.8m (2014: £99.4m) principally driven by the prior year disposal of two businesses, the impact of which was to decrease revenues by £7.6m year on year. Operating margins improved to 5.3% (2014: 4.6%). Organic revenue growth was £3.1m, or 3%, with positive currency translation and acquisitions contributing £3.5m and £0.4m respectively. Underlying operating profit was £5.2m (2014: £4.6m) including a positive currency impact of £0.2m.

 

Our US utilities businesses, comprising composite material and power transmission substation operations, performed well with revenue and profitability marginally ahead of prior year despite poor weather during the first quarter which delayed construction projects, principally in the north east. Our substation utility business saw increased success in packaging work supplying structural steel together with the electrical components. They also gained momentum with framework agreements, which now account for 50% of their revenue. Our composite waterfront products were installed in the New York area giving pier protection to both new and existing bridges. Composite utility poles were also supplied to Baja, Mexico after the hurricane damage experienced earlier in the year.

 

 

Our pipe supports business in the USA also experienced disruption from the adverse weather conditions in the first quarter although second quarter trading was more encouraging. The continued absence of major traditional power projects is being partly compensated for by delivery of pipe supports to new ethylene and fertilizer plants. Demand in the industrial pipe hanger business improved throughout the period and overall, although results remain below our expectations, revenue and profitability were ahead of the prior period. On 30 April 2015 the Group completed the acquisition of Novia Associates, Inc. ("Novia"), a vibration and seismic control manufacturer located in New Hampshire, USA. In 2014 Novia had revenue of $3.5m and adjusted EBITDA of $0.3m. Net consideration was $2.8m. Novia will extend the product offering of our US pipe supports business and the first two months of trading has been in line with our expectations.

 

As previously reported, our pipe supports business outside of the US entered the year with a lower order book than we would usually expect. The lower volumes adversely impacted operational gearing in our UK and Thailand facilities and resulted in a disappointing first half performance below our expectations. However, our Indian facility experienced good demand levels and performed in line with expectations. Encouragingly, and despite continued low oil prices, order intake improved dramatically during the second quarter across all three regions with projects for a pulp and paper mill in Indonesia and three packages on Dahej and Mundra LNG terminals in India. The thermal power market in India remains encouraging with all three of our plants in Thailand, India and the UK supplying products in the second half. We enter the second half with an order book of £12.2m, significantly ahead of the £7.6m at 31 December 2014. Operational improvements in people and processes made over previous periods should now enable successful execution and delivery of the enlarged order book and we look forward to a better second half performance.

 

In the UK, our utilities businesses have performed strongly year on year. The industrial flooring operation continues to benefit from single site operation and investments made in property and machinery to improve volume and productivity. During the period we were successful in delivery of handrail and platforms for Crossrail train maintenance depots and the Cygnus gas field wellhead platform. The order book and outlook remains healthy.

 

Our plastic pipe business is currently benefitting from a strong housing sector with volumes significantly ahead year on year. The transition to AMP6 projects is slower than originally projected but enquiry levels are significant. Recent capital investment to drive productivity improvements is reaping rewards.

 

Ongoing Government investment in the UK rail network and the protection of critical infrastructure sites has provided higher volumes for our security fencing operation, which performed well. Supply of solar frames was similar to the prior period despite the removal of certain tax subsidies earlier in the year.

 

The housing market, principally new build, for Birtley and Expamet continues to perform strongly with the supply of lintels and doors ahead of expectations and prior year.

 

Galvanizing Services

	£m		/- %	Constant Currency %
	2015	2014
Revenue	69.6	65.1	7	8
Underlying operating profit	13.8	12.5	10	8
Underlying operating margin %	19.8	19.2

 

Revenue increased by 7% to £69.6m (2014: £65.1m), despite negative currency movements of £0.9m. Underlying operating profit increased by £1.3m to £13.8m (2014: £12.5m) including £0.3m positive currency impact. Overall volumes were 3% ahead of the same period in the prior year primarily due to strong output in the US. Operating margins remained strong at 19.8% (2014: 19.2%) despite some volatility in zinc prices notably in non US$ denominated currencies.

 

USA

Volumes were 32% ahead of the same period in 2014. Adjusting for the new plant in Memphis, underlying volumes from existing plants were up 21%. Weather patterns were similar to 2014 with poor conditions in the first quarter delaying construction sites. Second quarter volumes were exceptional as projects accelerated to catch up from the first quarter weather impact. Alternative energy projects have been strong with solar work in particular standing out. Whilst some of the additional volume attracts a lower margin, overall the business performed ahead of expectations.

 

The new plant in Memphis commenced production at the end of November 2014. Volumes have steadily improved throughout the first half resulting in profitable trading in the second quarter and break even overall in the period. The performance bodes well for the rest of the year and the future.

 

 

 

France

Despite recent economic stimulus from the European Central Bank, the French and wider mainland European economies remain subdued. Volumes in France fell 12% year on year. Excluding the impact of the one off contract for the Bordeaux Stadium, which completed in early 2014, underlying volumes fell 8%. Pricing discipline and cost control enabled us to maintain margins in line with the prior period.

 

UK

Headline volumes in the UK fell 5% year on year with the principal driver being our decision to close our Hereford plant, the smaller of our two structural galvanizing baths, in December 2014 as part of our drive to optimise our network and increase returns. The closure has been completed to plan and encouragingly we have retained a higher proportion of the existing customer base than expected. Structural steel customers are now serviced from our Chesterfield plant where we have invested significantly to expand and upgrade facilities. Excluding the impact of the Hereford plant closure, underlying volumes were similar to the prior year. The lower cost base more than offset the reduced volumes resulting in profitability marginally ahead of the prior period.

 

Financial Review

Cash generation and financing

Cash generated from operations during the period was £26.9m (2014: £15.2m), the improvement on last year reflecting higher underlying profits and working capital efficiencies. The working capital outflow in the period, which arises from normal seasonal trading patterns, was £5.6m (2014: £10.5m) and overall working capital as a percentage of annualised sales improved to 14.4% at 30 June 2015 (2014: 15.0%) with a reduction in debtor days to 58 days (30 June 2014: 60 days; 31 December 2014: 60 days). There were no material net impacts on the period end balance from movements in zinc and commodity prices. Cash spend of £0.7m was incurred in respect of the costs of closure of one of the Group's operating sites announced in December 2014.

 

Capital expenditure of £8.4m (2014: £16.8m) represents a multiple of depreciation and amortisation of 1.0 times (2014: 2.3 times), reflecting a more normal level of spend following the significant outlay in the prior year on construction of Zoneguard temporary road safety barrier in the UK and the new galvanizing facility in Memphis, Tennessee.

 

Group net debt at 30 June 2015 was £89.2m, a reduction of £6.8m since 31 December 2014 (£96.0m) including a favourable exchange impact of £1.4m principally resulting from the appreciation of Sterling against the Euro during the period.

 

Change in net debt

	6 months ended 30 June 2015 £m	6 months ended 30 June 2014 £m	Year ended 31 December 2014 £m
Change in net debt
Operating profit	9.1	18.1	41.1
Non-cash items	25.7	12.3	23.2
Operating cash flow before movement in working capital	34.8	30.4	64.3
Net movement in working capital	(5.6)	(10.5)	(5.1)
Change in provisions and employee benefits	(2.3)	(4.7)	(5.5)
Operating cash flow	26.9	15.2	53.7
Tax paid	(5.9)	(4.3)	(9.3)
Net financing costs paid	(1.5)	(1.7)	(3.2)
Capital expenditure	(8.4)	(16.8)	(35.9)
Proceeds on disposal of non-current assets	0.9	0.2	0.7
Free cash flow	12.0	(7.4)	6.0
Dividends paid	(5.0)	(4.7)	(12.4)
Acquisitions	(1.5)	-	(0.2)
Disposals	-	0.1	0.5
Amortisation of refinancing costs	(0.2)	-	(0.3)
Issue of new shares	1.1	0.2	0.3
Satisfaction of long term incentive payments	(1.0)	(1.0)	(2.4)
Net debt decrease/(increase)	5.4	(12.8)	(8.5)
Effect of exchange rate fluctuations	1.4	1.5	(0.3)
Net debt at the beginning of the period	(96.0)	(87.2)	(87.2)
Net debt at the end of the period	(89.2)	(98.5)	(96.0)

 

The net debt to EBITDA ratio under the Group's principal banking facility fell to 1.3 times at 30 June 2015 (31 December 2014: 1.5 times), driven by the positive impact of working capital efficiencies, reduced capital expenditure and growth in EBITDA. Interest cover was 23.5 times (31 December 2014: 20.6 times).

 

 

 

 

Tax

The underlying effective tax rate for the period was 24.0% (year ended 31 December 2014: 24.0%) and is the estimated effective rate for the full year. The tax charge for the period was £2.7m (2014: £4.6m), including a £3.2m credit in respect of non-underlying charges, principally representing the unwind of deferred tax liabilities on the amortisation and impairment of acquisition intangible assets. The underlying income statement tax charge is in line with the cash tax charge of £5.9m (2014: £4.3m).

 

Finance costs

Net financing costs for the period were £2.0m (2014: £2.1m) with an underlying element of £1.5m (2014: £1.7m). Underlying operating profit covered net underlying finance costs 17.5 times (2014: 13.2 times). The non-underlying element of finance costs of £0.5m (2014: £0.4m) represents the net cost of pension fund financing of £0.3m and £0.2m amortisation of refinancing fees capitalised in the prior year.

 

Non-underlying items

The total non-underlying items charged to operating profit in the Consolidated Income Statement amounted to £17.2m (2014: £4.4m) and were made up of the following:

 

	Income Statement charge	Cash in the year	Non-cash
	£m	£m	£m
Impairment of acquired intangible assets	(15.8)	-	(15.8)
Business reorganisation costs	0.2	-	0.2
Acquisition costs	(0.4)	(0.4)	-
Amortisation of acquisition intangibles	(1.1)	-	(1.1)
Losses on sale of properties	(0.1)	0.4	(0.5)
Total	(17.2)	-	(17.2)

 

·      The impairment charge of £15.8m represents a full impairment of the goodwill and acquired intangible assets relating to the Group's acquisition of The Paterson Group in March 2011. Despite an improvement in performance in the second quarter of 2015, first half results remain below expectations and, overall, the business continues to generate levels of profitability that are significantly below those anticipated at acquisition, largely driven by changes in the US power generation market including the hiatus in nuclear spend. As a result an impairment review was performed at the half year (see note 6) and has resulted in a full impairment of the goodwill and acquired intangible assets.

 

·      The credit of £0.2m in respect of business reorganisation costs reflects the net release of provisions made in the prior year in respect of site closures, following the favourable settlement of the exposures previously provided.

 

·      Acquisition costs of £0.4m comprise £0.1m for the acquisition of Novia Associates, Inc. on 30 April 2015 and £0.3m relating to the aborted acquisition of W. Corbett & Co Galvanizing.

 

·      Amortisation of acquisition intangibles was £1.1m.

 

·      Losses on sales of properties during the year were £0.1m.

 

Assets held for sale

The Group holds a number of properties that are currently being actively marketed for disposal and which have therefore been classified as assets held for sale at 30 June 2015, at a value of £1.0m (31 December 2014: £1.5m). The reduction in the period reflects the disposal of one of these properties.

 

Acquisition

On 30 April 2015 the Group completed the acquisition of Novia Associates, Inc., a US-based business operating in a similar market to our pipe supports operations. Net consideration for the acquisition was £1.8m, of which £0.3m is deferred and payable in April 2016.

 

Pensions

Following the triennial valuation of the Group's UK defined benefit pension arrangements at April 2012, the Group has agreed deficit reduction plans in place that require cash contributions amounting to £2.5m for the three years to April 2016, followed by payments of £2.3m for a further seven years. The triennial valuation as at 5 April 2015 is underway and negotiations with the Trustees have commenced. Whilst it is too early to predict the outcome of these discussions it is expected that the results will be presented in the Annual Report at 31 December 2015.

 

 

Principal Risks and Uncertainties

The Group has a process for identifying, evaluating and managing the principal risks and uncertainties it faces. Details of these principal risks and uncertainties are contained on pages 17 to 21 of the Group's Annual Report and Accounts for the year ended 31 December 2014. It is the Director's opinion that these are the risks and uncertainties that could impact the performance of the Group and that they remain applicable to the current financial year.

 

Whilst for the six months ended 30 June 2015 there has been no significant change in the overall scope of the principal risks and uncertainties referred to above, the Board has implemented an educational programme to further strengthen risk management procedures including, inter alia, contractual management and competition law compliance. The Directors do not envisage that any of these additional measures will have a material impact upon the expected performance of the Group for the remainder of the financial year.

 

Going Concern

The Group continues to meet its day to day working capital and other funding requirements through a combination of long term funding and short term overdraft borrowings. The Group's principal financing facility is a £210m multi-currency revolving credit agreement which expires in April 2019.

 

The Group actively manages its strategic, commercial and day to day operational risks and through its Treasury function operates Board approved financial policies, including hedging policies that are designed to ensure that the Group maintains an adequate level of funding headroom and effectively mitigates foreign exchange and other financial risks.

 

After making due enquiry, the Directors have reasonable expectation that the Company and its subsidiaries have adequate resources to continue in operational existence for the foreseeable future and therefore adopt the going concern principle.

 

Directors' Responsibility Statement

We confirm that to the best of our knowledge:

 

·        The condensed set of financial statements has been prepared in accordance with IAS 34: Interim Financial Reporting as adopted by the EU;

 

·        The interim management report includes a fair review of the information required by:

 

a)    DTR 4.2.7R of the Disclosure and Transparency Rules, being an indication of important events that have occurred during the first six months of the financial year and their impact on the condensed set of financial statements; and a description of the principal risks and uncertainties for the remaining six months of the year; and

 

b)    DTR 4.2.8R of the Disclosure and Transparency Rules, being related party transactions that have taken place in the first six months of the current financial year and that have materially affected the financial position or performance of the entity during that period including any changes in the related party transactions described in the last Annual Report that could do so.

 

This report was approved by the Board of Directors on 6 August 2015 and is available on the Company's website (www.hsholdings.com) under the "Latest News" or "Press Release" sections.

 

 

W H Whiteley                       D W Muir                              M Pegler

Chairman                              Chief Executive                     Finance Director

 

6 August 2015