Business Review

 

Introduction

Hill & Smith has delivered a very strong trading performance in the six months to 30 June 2016.

 

Infrastructure investment in our key UK and US markets remained robust which, along with our focused active portfolio management strategy, resulted in record revenue and profitability. Underlying operating margins again improved across all three divisions.

 

Our strategy of international diversity, together with the leading positions our businesses hold in their respective markets, continues to underpin our performance. Our US and UK operations grew on the back of increasing infrastructure investment in our chosen end markets. Together the UK and US operations represented 90% of operating profit in the first half. Organic profit growth has been supplemented by targeted bolt-on acquisitions and decisive action to restructure underperforming assets to drive overall returns and shareholder value.

 

Results

Underlying revenue increased by 9% to £254.0m (2015: £233.0m), with translational currency benefits contributing £6.4m or 3%. After adjusting for additional revenue of £6.4m from acquisitions and reduced revenue from restructuring actions of £5.0m, organic underlying revenue growth was £13.2m or 6%. Underlying operating profit improved by 25% to £33.0m (2015: £26.3m), including a positive currency translation of £1.1m. Acquisitions contributed £1.7m and the benefit of restructuring actions a further £0.9m. Underlying operating margin improved by 170bps to 13.0% (2015: 11.3%).

 

Underlying profit before taxation at £31.7m was 28% higher than the previous year (2015: £24.8m). Statutory profit before taxation was £19.4m (2015: £7.1m).

 

Underlying earnings per share at 30.7p was up 27% compared with the previous year (2015: 24.2p). Basic earnings per share was 16.8p (2015: 5.6p).

 

Net debt increased to £99.5m (31 December 2015: £91.5m; 30 June 2015: £89.2m) including a negative currency translation impact of £3.3m.

 

Dividend

The Board has declared an interim dividend of 8.5p per share (2015: 7.1p), representing a 20% increase on the corresponding period last year. The interim dividend will be paid on 5 January 2017 to shareholders on the register on 25 November 2016.

 

Governance and the Board

As reported in the 2015 Annual Report, Clive Snowdon, Senior Independent Director and Chairman of the Remuneration Committee, retired at the conclusion of the Annual General Meeting in May 2016. Consequently Jock Lennox, currently Chairman of the Audit Committee, also assumed the role of Senior Independent Director. Annette Kelleher was appointed Chairman of the Remuneration Committee.

 

Also in May 2016, Mark Reckitt joined the Board as a Non-executive Director. With extensive strategic and financial experience, he will be an invaluable addition to the Board.

 

Effective 1 July 2016, Mark Pegler was asked by the Board to assume full operational and management responsibility for the businesses within our UK Utilities division. The new role will be in addition to his current role of Group Finance Director.

 

Brexit

It is too early to assess with any certainty the impact of the decision by the United Kingdom to leave the European Union. In the short time since the referendum result we have not experienced any material positive or negative impact. We are confident that our strategy of international diversification along with market leading positions in key infrastructure investment markets will help limit any potential negative impact on the Group. However, we remain vigilant and will react with our customary speed as necessary.

 

Outlook

The Group benefits from the industrial and geographical spread of its markets and businesses, which not only provide a resilient base, but also opportunities for growth. Generating over 80% of underlying revenue and 90% of underlying operating profit from its UK and US operations, the Group principally operates in niche infrastructure markets where the overall outlook remains positive.

 

Our US and UK galvanizing plants have performed well and, notwithstanding strong comparatives in the second half, we anticipate another good year. The US and UK operations will more than offset any weakness from our French business.

In Utilities, notwithstanding a slower start to the year, our UK and US activities are well placed to continue to benefit from the significant investment in the ageing infrastructure of those countries. With strong order books we expect an improved second half performance versus the first. The proposed restructuring of our loss-making non-US Pipe Supports operations will also improve Utilities' profitability.

 

In the UK, the implementation of the Government's Road Investment Strategy ('RIS') is progressing well and is in the second year of an initial five year plan, which provides certainty of funding through to 2020/21. We therefore have confidence that the Group's road product portfolio will continue to benefit from the increased investment in the UK road infrastructure. Improving trends in the outlook for our international roads businesses are also encouraging.

 

Overall, although risks remain, 2016 is expected to be a year of good progress.

 

Operational Review

Infrastructure Products

	£m		/- %	Constant Currency %
	2016	2015
Revenue	172.6	163.4	6	4
Underlying operating profit	14.7	12.5	18	15
Underlying operating margin %	8.5	7.6

 

The division is focused on supplying engineered products to the roads and utilities markets in geographies where there is sustained long term investment in infrastructure. Underlying revenues increased 6% to £172.6m (2015: £163.4m) including a £3.2m positive impact from exchange rate movements. Acquisitions contributed £1.9m and there was £5.0m of lower revenue from restructured operations. Organic revenue growth was £9.1m, or 5% at constant currency. Underlying operating profit was £14.7m (2015: £12.5m), an increase of £2.2m, with a positive currency translation impact of £0.3m. Acquisitions contributed £0.4m and restructured operations an additional £0.9m. Underlying operating margin improved to 8.5% (2015: 7.6%).

 

Roads

	£m		/- %	Constant Currency %
	2016	2015
Revenue	77.5	64.6	20	18
Underlying operating profit	9.0	7.3	23	22
Underlying operating margin %	11.6	11.3

 

Our Roads division designs, manufactures and installs temporary and permanent safety products for the roads market together with intelligent transport systems ('ITS') which collect data and provide information to road users. We principally serve the UK market, with an international presence in selected geographies with a growing demand for tested safety products. Underlying revenues increased by 20% to £77.5m (2015: £64.6m), an organic increase of 17% after a currency benefit of £1.0m and contribution from acquisitions of £0.5m. Underlying operating profit of £9.0m was £1.7m higher than the prior year (2015: £7.3m) including £0.1m from acquisitions.

 

UK

In the UK, the implementation of the Government's RIS continues to develop in line with our expectations. Three Smart Motorway programmes are progressing well, supported by early stage engineering for the next phase of investment. As expected, demand for our temporary safety barrier has been strong and utilisation for this rental product has been high. To expand our product and market offering, on 13 May we completed the acquisition of Safety and Security Barrier Holdings Limited ('Hardstaff Barriers') for a cash consideration of £10.6m. Hardstaff Barriers is a privately owned business specialising in the sale and rental of fully tested temporary and permanent pre-cast concrete barriers for site and vehicle protection, and complements our existing range of vehicle restraint systems. It has also developed a quick-deploy, high security perimeter system for the protection of critical infrastructure in vulnerable locations with products supplied across the UK and Europe. The business will complement and further enhance our existing range of hostile vehicle mitigation products.

 

Demand for our permanent safety barrier application has been lower than the same period last year. This is unsurprising, as it is naturally required towards the end of projects, so demand is expected to increase as the current Smart Motorway and other programmes approach finalisation later this year and into next. Lower demand in the UK has been more than offset by significant exports of both Brifen, our wire rope safety barrier system, and Bristorm, our high containment anti-terrorist perimeter barrier. Our bridge parapet safety barrier also experienced higher volumes compared to the prior period.

 

Our Variable Message Sign business enjoyed a first half similar to prior year, a commendable performance given the current investment cycle in the RIS. Robust order intake over the last nine months bodes well for a strong second half of the year.

 

We have experienced considerable success with the continued diversification of our lighting column business away from the curtailing PFI market and into the local authority and contractor market. Higher volumes and margins contributed to an excellent first half.

 

We have today separately announced the acquisition of Signature Limited ('Signature') for a cash consideration of £12.5m. Signature is a UK based business which specialises in the development, manufacture, installation and maintenance of street lighting columns, road sign and traffic management systems. The business will complement and expand our product offering into the UK roads market.

 

Non-UK

Outside the UK, our Scandinavian business continues to perform well with revenue and profitability marginally ahead of the prior year. The recent weakening of Sterling will assist the export of Group product into this market. On 1 April we acquired FMK Trafikprodukter AB ('FMK') for a cash consideration of £2.7m, with additional payments of £1.1m due on achievement of certain targets. FMK designs and manufactures safety barriers, noise reduction screens and bridge parapets for the Scandinavian market and is based in Sweden. The acquisition of FMK and its suite of products will accelerate the growth plans of our existing Scandinavian roads business.

 

In France, our lighting column business operates in a difficult market but increased volumes and profitability. Recent investment in automation continues to reduce costs and enhance service capability.

 

In India, we continue to invest time and effort into developing our wire rope product for the vast Indian roads market. Results were similar to prior year and the second half will be key for the business with many available opportunities.

 

After a period of investment and incubation, exciting progress is now being made in both the USA and Australia. In the USA, the growing acceptance of Zoneguard, our steel temporary safety barrier, as an alternative to concrete has provided tangible results and revenue and profitability are ahead year on year. In Australia, we have continued to develop our presence in the direct sale and rental market. In the first half, we invested £1.1m in 5.5km of Zoneguard rental pool which will be utilised fully until 2017. We also secured a supply contract for 19.8km of Zoneguard for the New South Wales government for an upgrade to the M1 motorway in the Hunter Valley region. For the first time, our Australian business returned a positive result in the first half and we remain cautiously optimistic regarding its future development.

 

Utilities

	£m		/- %	Constant Currency %
	2016	2015
Revenue	95.1	98.8	-4	-6
Underlying operating profit	5.7	5.2	10	6
Underlying operating margin %	6.0	5.3

 

Our Utilities division provides industrial flooring, plastic drainage pipes, security fencing and steel products for energy creation markets across the globe. The requirements for new power generation in emerging economies and replacement of ageing infrastructure in developed countries provide excellent opportunities for the Group's utilities businesses. Underlying revenues were marginally below the prior year at £95.1m (2015: £98.8m) principally as a result of the restructuring and closure programme of our non-US Pipe Supports business (£5.0m lower revenue year on year). Currency translation benefits were £2.2m with a further £1.4m contribution from recent acquisitions. Organically, underlying revenue fell by £2.3m. Underlying operating profit was £5.7m (2015: £5.2m) including a positive currency impact of £0.2m, first time contribution from acquisitions of £0.3m and a £0.9m benefit from ongoing restructuring.

 

In the US, our power transmission substation operation performed well, with revenue and operating profit ahead of prior year. The strategy of supplying complete packaging work, structural steel and electrical components, under framework agreements with key US utilities continues to bear fruit. Although underlying volumes remain reasonable, our composite material business experienced a disappointing first half with the absence of key one-off contracts impacting performance. However, quoting opportunities have been significant and we remain hopeful of securing a project in the second half to recover the first half shortfall. In January 2016 we completed the acquisition of the trade and assets of E.T. Techtonics, Inc. ('ETT'), a leading designer of composite bridges for pedestrian, equestrian and light vehicle applications. Cash consideration of $1.8m was paid at acquisition with a further $0.2m due later in 2016. ETT has been integrated into our existing composites business and furthers our strategy of enhancing our product offering to end users within infrastructure markets.

 

Our Pipe Supports business in the USA experienced improving conditions throughout the first half and delivered revenue and profitability marginally ahead of prior year. To provide additional focus and impetus, a new leadership team was installed in June. Market conditions in both the industrial and engineered hanger markets remain competitive.

 

In March, we announced the restructuring of our non-US Pipe Supports businesses. Plans to close manufacturing operations in the UK and Thailand along with a sales office in China are well advanced with all manufacturing ceasing by the end of September 2016. We have invested further in the capability of our Indian facility which has become the centre of excellence for the manufacture of pipe support products outside of the USA. The transfer of product and customers to India has progressed well.

 

As expected, results from our UK utilities businesses were lower than the exceptional performance in the first half of 2015. The timing of project completions in industrial flooring along with the investment cycle of AMP6 in the plastic pipe business were key drivers. The order book in industrial flooring is particularly strong with multi product projects for rail maintenance depots, and supports a much stronger second half outlook.

 

On 14 July we completed the acquisition of Technocover Limited ('Technocover') for a cash consideration of £10.0m. Technocover specialises in the development, manufacture, installation and maintenance of high security access products for the utilities markets. Technocover's suite of products is complementary to our existing market offering and will benefit from being part of the UK Utilities division.

 

Our security fencing operation performed well and, with further investment planned in the UK rail network along with key infrastructure sites, the outlook remains positive. Despite the removal of tax subsidies in 2015, we were able to extend our supply of solar frames and expect to continue to do so until the end of 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 the prior year.

 

Galvanizing Services

	£m		/- %	Constant Currency %
	2016	2015
Revenue	81.4	69.6	17	12
Underlying operating profit	18.3	13.8	33	25
Underlying operating margin %	22.5	19.8

 

The Galvanizing Services division offers corrosion protection services to the steel fabrication industry with multi-plant facilities in the UK, France and the USA. Underlying revenue increased by 17% to £81.4m (2015: £69.6m) including positive currency translation of £3.2m and £4.5m from acquisitions. Organic underlying revenue growth was 6%. Underlying operating profit of £18.3m (2015: £13.8m) included £0.8m currency benefit and £1.3m contribution from acquisitions. Organic improvement in profitability was £2.4m. Underlying operating margin was a record 22.5% (2015: 19.8%).

 

USA

Volumes were 15% ahead of the same period in 2015. Unusually, weather conditions in the first quarter were favourable with only minimal disruption to production. Strong volumes were experienced from the alternative energy market, particularly solar where recent medium term legislation to extend tax credits has supported demand. A large LNG plant project, due for completion in the third quarter, has also supported two of our plants. Following approval of a new $305bn five-year highway bill, bridge and highway work has been lower than expected as various states await their allocation of funds before committing to local investment initiatives.

 

France

In a difficult economic climate the business performed well with volumes increasing year on year by 7%. Despite strong price competition that remains evident in certain sectors and regions, the business delivered profitability only marginally below the prior year with a lower cost base assisting. The resizing of one of our structural steel plants to a jobbing plant with a smaller bath will be completed in July and will aid efficiencies and the cost base further.

 

UK

Overall volumes were 12% higher year on year. Excluding Premier Galvanizing, acquired in November 2015, underlying volumes were 3% lower principally due to the slower start in our UK utilities businesses and permanent road safety barrier. Premier Galvanizing has been integrated into our UK galvanizing business and performed in line with the acquisition rationale. Investment in our Medway and Walsall plants together with our drive for improved efficiencies resulted in higher margins year on year.

 

Financial Review

Cash generation and financing

Cash generated from operations during the period was £34.0m (2015: £26.9m), the improvement on last year reflecting record underlying first half profits.

 

The working capital outflow in the period, which arises from normal seasonal trading patterns, was £4.8m (2015: £5.6m) and overall working capital as a percentage of annualised sales improved to 13.3% at 30 June 2016 (2015: 14.4%) with a reduction in debtor days to 58 days (31 December 2015: 62 days). There were no material net impacts on the period end balance from movements in zinc and commodity prices.

 

Capital expenditure of £9.9m (2015: £8.4m) represents a multiple of depreciation and amortisation of 1.1 times (2015: 1.0 times), in line with the Group's normal level of spend. Significant purchases during the period included £1.1m of Zoneguard temporary road safety barrier in Australia to service rental contracts secured for the second half of the year, and £0.7m on development of new products for the UK roads market.

                             

Group net debt at 30 June 2016 was £99.5m, an increase of £8.0m since 31 December 2015 (£91.5m) principally driven by spend of £14.2m on three acquisitions completed during the period, and an adverse exchange impact of £3.3m resulting from the sharp depreciation in Sterling against the Euro and US Dollar towards the end of June.

 

Change in net debt

	6 months ended 30 June 2016 £m	6 months ended 30 June 2015 £m	Year Ended 31 December 2015 £m
Change in net debt
Operating profit	21.2	9.1	37.3
Non-cash items	10.4	25.7	34.6
Operating cash flow before movement in working capital	31.6	34.8	71.9
Net movement in working capital	(4.8)	(5.6)	(2.5)
Change in provisions and employee benefits	7.2	(2.3)	(3.3)
Operating cash flow	34.0	26.9	66.1
Tax paid	(6.9)	(5.9)	(12.6)
Net financing costs paid	(1.4)	(1.5)	(3.0)
Capital expenditure	(9.9)	(8.4)	(16.0)
Proceeds on disposal of non-current assets	0.1	0.9	1.2
Free cash flow	15.9	12.0	35.7
Dividends paid	(5.5)	(5.0)	(14.1)
Acquisitions	(14.2)	(1.5)	(16.6)
Disposals	-	-	-
Issue of new shares	0.7	1.1	1.2
Amortisation of costs associated with revolving credit facilities	(0.2)	(0.2)	(0.4)
Satisfaction of long term incentive payments	(1.4)	(1.0)	(0.9)
Net debt decrease/(increase)	(4.7)	5.4	4.9
Effect of exchange rate fluctuations	(3.3)	1.4	(0.4)
Net debt at the beginning of the period	(91.5)	(96.0)	(96.0)
Net debt at the end of the period	(99.5)	(89.2)	(91.5)

 

The net debt to EBITDA ratio under the Group's principal banking facility was 1.2 times at 30 June 2016 (31 December 2015: 1.2 times), with the acquisition spend during the period being offset by improved operating cash flow. Interest cover was 28.4 times (31 December 2015: 25.0 times).

 

In May 2016 the Group extended the term of its £210m principal revolving credit facility from April 2019 to April 2021, providing the Group with significant headroom against its expected funding requirements for an additional two years, whilst also taking advantage of favourable market conditions to reduce overall costs and amend key terms. Costs incurred of £1.0m have been deducted from the carrying value of the loans, as required by accounting standards. 

 

Tax

The underlying effective tax rate for the period was 24.0% (year ended 31 December 2014: 23.8%) and is the estimated effective rate for the full year. The tax charge for the period was £6.2m (2015: £2.7m), including a £1.4m credit in respect of non-underlying charges, principally relating to business reorganisation costs. Cash tax paid in the period was £6.9m (2015: £5.9m), slightly lower than the underlying income statement tax charge of £7.6m (2015: £5.9m).

 

Finance costs

Net financing costs for the period were £1.9m (2015: £2.0m) with an underlying element of £1.3m (2015: £1.5m). Underlying operating profit covered net underlying finance costs 25.0 times (2015: 17.5 times). The non-underlying element of finance costs of £0.5m (2015: £0.5m) represents the net cost of pension fund financing of £0.3m and £0.2m amortisation of refinancing fees capitalised in the current and prior year.

  

Non-underlying items

The total non-underlying items charged to operating profit in the Consolidated Income Statement amounted to £11.8m (2015: £17.2m) and comprise the following:

 

	Income Statement Charge £m	Cash in the year £m	Future cash £m	Non-cash £m
Business reorganisation costs	10.2	1.4	4.4	4.4
Acquisition costs	0.7	0.7	-	-
Amortisation of acquisition intangibles	0.9	-	-	0.9
	11.8	2.1	4.4	5.3

 

·      Business reorganisation costs of £10.2m relate to the closure of the Group's non-US Pipe Supports operations announced in March 2016, comprising closure provisions of £9.2m and post-announcement operating losses of £1.0m. The cash costs of the closure process are expected to be £4.8m, of which £0.4m has been spent to date. Manufacturing at facilities in the UK and Thailand is expected to cease by the end of September 2016. Completion of the restructuring plan remains on track for the first half of 2017.  

 

·      Acquisition costs of £0.7m relate to three acquisitions completed during the period, further details of which are set out below.

 

·      Amortisation of acquisition intangibles was £0.9m.

 

Further details are set out in note 6 to the Financial Statements.

 

Acquisitions

The Group completed three acquisitions during the first six months:

 

·      In January 2016 we acquired ET Techtonics, Inc., a US-based designer of composite bridge products that complements our existing US composites business, Creative Pultrusions. Consideration for the acquisition was £1.2m.

 

·      In April 2016 we acquired FMK Trafikprodukter AB, a Swedish producer of equipment for the Scandinavian roads markets. FMK has been integrated with our existing ATA business, providing an expanded suite of traffic management products. Consideration for the acquisition was £3.8m, of which £1.1m is deferred and contingent on future performance and product development targets.

 

·      In May 2016 we acquired Safety and Security Barrier Holdings Limited, the parent company of Hardstaff Barriers Limited, for a consideration of £10.6m. Hardstaff Barriers, based in Nottingham, UK, specialises in temporary and permanent concrete safety barriers for site and vehicle protection. 

 

Intangible assets arising on the acquisitions amounted to £14.8m, comprising customer relationships of £3.0m, contractual arrangements of £1.4m and residual goodwill of £10.4m.

 

Pensions

The Group operates defined benefit pension plans in the UK, France and the USA. The IAS19 deficit of these plans at 30 June 2016 was £19.7m, an increase of £5.1m from 31 December 2015 (£14.6m). The increase was driven by a lower discount rate resulting from a substantial reduction in bond yields at 30 June 2016 following the UK referendum on EU membership, which was only partly offset by reductions in future inflation assumptions and a positive asset performance. 

 

Following the triennial valuation of the Group's UK defined benefit pension arrangements at April 2015, the Group has agreed deficit reduction plans in place that require cash contributions amounting to £2.3m for the five years to April 2020. During the period the Group completed the merger of its two UK schemes and continues to be actively engaged in dialogue with the schemes' Trustees with regard to management, funding and investment strategies.

 

Principal Risks and Uncertainties

The Group has a process for identifying, evaluating and managing the principal risks and uncertainties that it faces, and the directors have reconsidered these principal risks and uncertainties during the period. The result of the UK referendum on future membership of the EU is not expected to have a material impact on the Group as our customers are predominantly served locally and cross border trading does not form a significant proportion of the Group's transactions. The risk of a wider macro-economic effect is addressed by the Group's existing Economic risks. Accordingly it is the Directors' opinion that the principal risks set out on pages 32 to 37 of the Group's Annual Report and Accounts for the year ended 31 December 2015 remain applicable to the current 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 2021 following the extension made during the period.

 

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 4 August 2016 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

 

4 August 2016