Castings: Site Visit 16 Dec 2020. Passionate management investing in the future.
Castings is a market leading castings and machining UK industrial company supplying mainly into the commercial truck market. The company has two iron foundries in the UK: at Brownhills in the West Midlands and William Lee in Derbyshire. I went up to the Brownhills foundry operation to meet Adam Vicary, CEO and Steve Mant, FD. We were also joined in the meeting by Chair Brian Cooke.
Firstly, it was reassuring to see the company following all the Covid-19 protocols. There was a temperature check on arrival, hand sanitising stations, face coverings were worn and despite the fact that it was a cold and wet day the windows were opened in the large meeting room.
The foundry uses the traditional approach of pouring molten iron into silica moulds. There is a mix of manual and automated work going on and the use of robots is impressive. A lot of investment has been made in automation over the last 5 years. The finishing processes have largely been completed although there are opportunities throughout the foundry and in machining. With the advances in automation, robotics and AI they believe they can make productivity improvements for the next 5 years. In a number of cases where an individual used to work on a single machine they can now work on multiple machines at the same time.
The machining business has gone through a tough time of late and has been particularly hard hit during Covid as demand fell off a cliff. Demand has recovered but it will take 2 years to completely fill up capacity. Once achieved management feel there is no reason why this division shouldn’t generate 8-10% operating margins. If the machining division returns to these sort of margins then the picture for the group should be of overall margins in the 10-12% range. This division is already well invested and there were a number of sparkling new machines running with very few operators. Further investment though is being made in automation and here the engineering passion from CEO Adam really came through as he talked about how they designed robotic solutions to enable automated processes. The two-armed robotic arms on show twisted, picked and placed with great dexterity to moved large iron castings to the right location to be automatically machined. In this era very few people want to move 35kg parts all day.
Investment in digital has been made in the warehouse too such that stock is checked and bar coded and accurate storage and dispatch has been increased significantly. Their customers hold very little stock and articulated lorries are loaded and distributed every day. Product is the responsibility of the customer once it leaves the warehouse. A Brexit deal or no deal is unlikely to make much of an impact on customer demand in their view although it may impact the supply chain. To mitigate this their customers have built up a week of stock. That said their years of industry experience point to trucks always getting through in the end even if there is a period of delay for a short period before things iron themselves out.
Back in the meeting room we talked about the outlook for 2021 and beyond. Recently growth has been hard to generate and volumes took a dent from the Covid induced slowdown. Volumes have since returned to pre covid levels and the company is actively recruiting for new staff. The recruitment signs were on display as I entered the location and interestingly the company said it was actually quite difficult to find the right calibre of hires. The foundries don’t have a huge amount of visibility as they are only provided with 17-week production schedules and only 24 hrs notice on what they actually want on a day to day basis. There is some comfort from the fact that their parts are designed into the engines and chassis of their customers. The current focus on cost and quality means that they are the only supplier the majority of the time as this is significantly more cost effective for the customer. Recent projects won include work on the new Scania engine launching in 2021 and a new Volvo engine launching in 2022. Both these projects will have more Castings parts than the engines they replace.
We touched on the potential impact of the growth in electric trucks and I was comforted that there won’t be much of an impact. Firstly, whilst about 60-70% of their commercial truck work comes from parts for the chassis and these parts won’t change whatever the powertrain. Secondly, the heavy truck segment where they operate need more power than can be generated by batteries so although some smaller trucks have gone electric there are no electric heavy trucks at present, or plans for any.
Castings hasn’t made any acquisitions in the past 20 years, but this option does remain part of their strategy to maximise returns for shareholders should the right opportunities arise. They certainly have the scope for acquisitions given the strength of their Balance Sheet which has £35m of net cash currently. The focus is most likely to be expanding into similar products with the same commercial truck customers. They might also consider expanding into other materials, such as Aluminium, where they can sell the product to the same customers.
I was very grateful to the Casting team for taking the time to show me around the Brownhills facilities and talk me through their progress in such a difficult year. It was clear that this management team are passionate about the business and completely believe that Castings and other industrial businesses can operate successfully in the UK against any competition, in any environment.
After the drive home I flicked through the annual report to remind myself how strong the balance sheet is and the value of the cash and assets owned by shareholders. There are Freehold site (about 60 acres) and buildings with a value of 29.2m, Plant and Equipment with a value of £41.5m, inventory with a value of £21.1m and cash of £33.4m combing for a total of £125.1m. Further there is a pension surplus of £11.2million and the company completed a buy in with Aviva which fully matches the scheme liabilities. The surplus is not shown on the balance sheet but a component of this could potentially be returned to the company.
Compare these assets to the current market cap of £156m and not much value is placed on the operating business itself. This operating business may not be digital or sexy but it could generate revenues of £140-160m and operating margins of 10-12%. There have been a few questions about the growth potential of the business but this valuation seems to be pricing in long term revenue and margin declines.