Review of Q1 2024

Total sales was 5% below our forecast of SEK1 878m and amounted to SEK1 782m (2 115), corresponding to -16% growth y/y. The organic growth y/y was -27%, somewhat below our forecast of -23% - and lower than the -23% seen in Q4. In addition to the US duct and German FTTH, which have been the drivers for negative organic over several quarters, the UK FTTH business had a softer quarter. However, the US FTTH did relatively well, although some delayed projects caused sales to decline slightly. Common for all FTTH markets, higher interest rates, inflation, and destocking hurt demand.

As in Q4, Harsh Environment and Data Center had a strong quarter. Together, they generated sales of SEK515m (234), corresponding to almost 30% of sales. The growth within Harsh Environment was mainly driven by acquisitions, while the growth of the Data Center was strong organically. Harsh Environment sees solid customer demand within oil & gas, defence, and renewable energy. At the same time, Data Center benefits from the increased demand for AI – all long-term structural growth drivers, except for perhaps oil & gas. Management continues to expect Harsh Environment and Data Center to see strong markets throughout 2024.

Regarding Fiber Solutions (FTTH and Duct), our assumption of the market bottoming out in Q4 2023 or H1 2024 still holds, although the organic growth rate was softer this quarter. Management expects its relevant markets to remain at the level seen in Q1 for the next few quarters and gradual improvements from late 2024 and onwards. That is somewhat more defensive than the Q4 outlook of a rebound in H2 2024. According to management, the BEAD program is progressing slower than expected, and expectations of higher interest rates for longer motivate the softened outlook. As none of Hexatronic’s most relevant peers have reported Q1 so far, it is too early to say if its market view aligns with peers. However, we believe it is likely peers will have a similar view.

Overall, the market situation does not seem to worsen, but the rebound is likely to be delayed compared to our previous expectations.

Hexatronic’s three most important markets, the US, UK and Germany, the so-called strategic growth markets, all have significantly lower FTTH/B penetration rates than Sweden. First, the number of households in the US, UK and Germany is ~42x the Swedish number. Second, the FTTH/B subscription penetration rates span from ~25% in the US to ~10% in the UK and Germany, compared to Sweden’s ~70%. Thus, there is a vast market to compete for in the strategic growth markets and considering the rapid growth seen in 2021 and onwards, we believe Hexatronic has a strong position in the markets.

While these markets experience a slowdown in FTTH/B investments due to cost inflation and high interest rates, we believe these markets will be important over the next ~8-10 years.

EBITA was SEK168m, corresponding to an EBITA margin of 9.4% (17.3). Although the reported EBITA margin increased from 9.1% in Q4 2023, the adjusted EBITA margin in Q4 2023 was 10.7%. However, Q1 is typically a seasonally softer quarter. Slightly lower OPEX and a gross margin in line expectations, did not mitigate the effect of lower sales compared to our forecast.

The operating cash flow was SEK270m (28) and was positively affected by a net working capital (NWC) contribution of SEK155 (-340). Thus, Hexatronic continues to strengthen its balance sheet through a combination of positive EBITA and by releasing working capital. As mentioned in the previous Update, except for the new duct plant in Ogden, Utah (expected to be finished in Q3 2024), Hexatronic’s short- and mid-term CAPEX needs are limited. For our 2024 forecast, EBITDA equals 1.4x net debt at the end of 2024. Thus, even though we expect decreasing EBITDA in 2024, the net leverage is well within healthy territory.

We lowered our sales forecasts for 2024-25 by 3%. The decrease is mainly due to the softened outlook, where a gradual rebound is expected in late 2024 rather than in H2 2024 – the solid development within Data Centers and Harsh Environment compensate somewhat.

We reduce our EBITA forecasts by 4-10% for 2024-25. The decrease is mainly driven by the lowered sales forecasts, which also negatively affect margins due to lower utilization.

Throughout 2024, we expect sales to be roughly in line with the Q1 level, adjusted for seasonality. We assume the EBITA margin will improve somewhat to a full-year level of 10.3%, supported by a slightly stronger Q4.

We lowered our Base Case somewhat to SEK40 (43), following a slightly decreased forecast for the near-term due to the softer outlook.

While the Bull Case assumes slightly higher growth and margins 2023-2030, the main difference is in the 2030-terminal period. Unlike our Base Case, where we expect the strategic growth markets to have negative sales growth from 2030 and onwards (like in Sweden post-2017), our Bull Case assumes flat sales and minor margin declines.

In our Bull Case, we expect Hexatronic to increase its sales from non-FTTH sources until 2030, fast enough to limit the expected downturn in FTTH. While Hexatronic has exposure to Harsh environment, core networks, 5G, farming, and data centres, most revenues are generated from FTTH. However, Hexatronic has a solid M&A track record, and several recent acquisitions, such as DCS, Weterings, Rochester, and Fibron, have added exposure to non-FTTH segments. Also, at least five to ten years are likely left until the FTTH boom is over in the strategic growth markets. Thus, Hexatronic has plenty of time to add additional sources of revenue until then, and M&A will likely play a major role.

Our Bear case assumes slightly lower growth and margins in 2023-2030. However, the major difference concerns the period after 2030. For example, our bear case assumes 4% in terminal EBIT margin compared to 8% in our base case. In the bear case, we believe the maturity of the current growth markets, the US, the UK, and Germany, will significantly negatively impact growth and margins, and Hexatronic cannot offset the downturn with new markets or segments.

Hexatronic is currently trading in line with peers for 2024e and at a discount on 2025e.