Organic & acquisition strategy underpins future

FLOWTECH FLUIDPOWER PLC

HALF-YEAR FINANCIAL REPORT FOR THE SIX MONTHS ENDED 30 JUNE 2017

INTRODUCTION

It is pleasing to report that since joining AIM in 2014 the Group has:

ü Expanded its portfolio extensively across existing and new product categories

ü Completed eleven acquisitions

ü Established three clearly-focussed divisions: Flowtechnology, Power Motion Control and Process

ü Delivered synergies across the organisation - procurement, operational, commercial and back office

ü Profit Sharing introduced at local level to focus on ROCE growth

As a business:

Ø Our strategy is to continue to enhance our unique position within the fluid power supply chain, and aligned to the global supply base thereby creating a multi-channelled access to a wide range of industrial and manufacturing customers. We are in an exciting phase.  Our product set and technical competence continues to deepen, increasing our touch points within the varied industrial and manufacturing customers we supply every day around the UK and overseas. 

As a Board:

Ø We remain confident that our wide range of revenue enhancing development programmes, when linked to our acquisition strategy based on a clear multi-channel approach, will continue to create significant opportunity for further growth and increased market penetration.  By developing our offer, we ensure that the Group maintains its competitive advantage in each of the markets in which it trades.

2017 HALF-YEAR FINANCIAL PERFORMANCE

We are pleased to report an encouraging first half trading performance, all achieved against a backdrop where the economic conditions have remained challenging in most industrial markets, and particularly in the UK (British Fluid Power Distributors Association Market Survey indicates 2017 fluid power overall distributor sales growth was negative 1.0%^).  Overall, turnover increased year on year by 24.8%, through a mixture of organic and acquisitive growth, and this has continued to reinforce our position as one of the leading players in the fluid power sector.

Although not defined under IFRS, the Directors believe that the underlying operating results give a better understanding of the business' profit performance.  The table below details this is in summary and further information is contained in note 3 of this Report.

**Underlying operating result is continuing operations' operating profit before acquisition costs, amortisation of acquired intangibles, share-based payment costs and restructuring costs.  Underlying operating result is reconciled to statutory profit before tax in note 3 to the HY Report.

† Adjusted for £136,000 of costs previously shown as Central Costs and now borne by Flowtechnology division

^ Source: British Fluid Power Distributors Association Monthly Survey January to July 2017 v 2016

The Flowtechnology division has increased its revenues by 6.9%.  The acquisition of Indequip in February 2016 contributed 1.6% of this growth, the balance of 5.3% reflects organic growth within the core business.  The division has continued to develop the product set and service offering in its 2017 catalogues increasing its market opportunities.  In the period since June, trading has remained in line with this growth pattern and we expect to make further positive progress over the remainder of the year.

The Power Motion Control division increased its revenues by 53.7%, of which 40.0% was via acquisition.  The remaining growth has been most pronounced in our Irish operation, Nelson Hydraulics, which has been able to use the fact it now has the support of a wider network of resources to significantly increase market share, particularly in Northern Ireland.  All the businesses within this division are highly technical and complementary to each other and under the PMC banner deliver a collaborative approach to our customers.  This has been a key element in the division's progress.  Like Flowtechnology, in the period since June, trading has remained buoyant and management are confident that further growth is achievable in Q3 and Q4.

Growth in the newest division Process reflects a mix of organic - 16.0% - and full year effects from the acquisition of Hydravalve in March 2016. The acquisition of Orange County in July 2017 will further enhance growth in the second half of 2017. Since June, trading has been strong and again the Board are confident of organic growth being achieved in Q3 and Q4. 

The Group's ongoing focus on Gross Profit across all the divisions, linked to our flexible pricing models and specialised procurement programmes, has enabled the business to maintain and develop its gross margins in line with market expectations at 34.1%, with the reduction from last year's comparative of 34.9% being predominantly down to the mix effect of the PMC division acquisitions.  Overall the Board is pleased with the pricing adjustments that have been made since the increase in the cost of USD and Euro sourced products seen post the Brexit result in the summer of 2016. Across the Group margins generally have returned to pre-Brexit levels.  

The Board is pleased to report that in all divisions staff and other operational costs remain in line with expectations. In addition, the Group has been able to use some of the proceeds of this growth to enhance our staff and management bonus schemes at local level with a view to replacing our current share based option schemes (see below). The Group is therefore able to report an underlying operating result of £4.504m (2016: £4.059m), an increase of 11% year on year.

FINANCIAL POSITION INCLUDING CASH FLOW AND BANK DEBT

Net cash generated from operating activities was £2.784m (note 9) (2016: £0.188m), an increase of £2.596m.  This figure represents a return to a more "normalised" result with the comparative in 2016 being influenced by the expected build-up of working capital in Indequip following the purchase of the trade in February 2016, and the heavier bias in stock investment in early 2016 made to take advantage primarily of better pricing opportunities in the Far East at the time - a decision that also provided some advantage against currency movements following the Brexit vote in June 2016.

Net borrowings at 30 June 2017 were £8.4m.  Barclays Bank Plc has supported the Group's acquisition activity, and we remain well within agreed facilities and covenants.  Overall the Board expects further strong operational cash generation in the second half of 2017, which will in turn support acquisition activity as well as future dividend payments (see below).

OUR BUSINESS STRATEGY FOR GROWTH

The raising of £10m of new capital at the end of March 2017 has already allowed us to complete several investments and these are included in the list below.  The pipeline remains strong, continues to develop, and if brought to fruition will significantly enhance our current brand portfolio and offering.  We remain confident that we will conclude more of these transactions over the coming months, and enhance organic growth through a mix of product development, value add services and new customer opportunities. 

During the year to date the Group has invested a total of £8.1million in the following acquisitions:

Ø Hydraulics & Transmissions Limited (HTL).   - Jan 2017 - PMC - Day 1 cash outlay incl. assumed net debt £1.8m

Ø Hewi Slangen - Feb 2017 - Flowtechnology - £0.2m

Ø Hi-Power Limited - June 2017 - PMC - £1.9m  

Ø Orange County Limited ("OCL") - July 2017 - Process - £1.5m

Ø The Hydraulic Group BV t/a Hydraflex Hydraulics - Sept 2017 - PMC - £2.7m

A further £3.5m is expected to be paid out in contingent consideration over the next two years (HTL - £0.9m, Hi-Power - £0.5m, OCL - £2.1m).

All the above businesses are trading strongly, and have further demonstrated that the acquisition and control processes which are in place allow integration to be progressed quickly and with little disturbance to customer facing operations.  All have developed our range of options.

These acquisitions clearly reinforce the ongoing strategy set out by the Board, to develop a focused Fluid Power Group across a wide number of industry sectors taking advantage of the complementary technical and product offerings, and creating an opportunity to de-risk some of the cyclic nature of each business. 

INVESTMENT FOR THE FUTURE

As part of the ongoing development of the Group, the Shared Logistics Centre based at Skelmersdale is in the process of internal redesign increasing its capacity by over 40%.  The total capital cost of this investment is c.£0.6m, and includes enhancement to both the automated picking lines and bulk storage, as well as office capacity.  The project which will be completed by the end of September 2017 has been majority funded by a capital contribution from the landlord on signing a new fifteen-year lease in 2016, and along with efficiency savings already created will provide additional capacity for the Group to deliver operational and stocking improvements for use by all our Profit Centres.  The Board believes this will also provide considerable scope for both the profitable integration of future acquisitions to the Group, and provide scope for further organic growth within the current portfolio.

In addition, it is our intention to establish during the early part of 2018 a Shared Engineering Centre based on the current Primary Fluid Power operation in Knowsley, Merseyside to enhance our position as a complete service provider to the fluid power sector.  Subject to the identification of a new leasehold site, a sale of the current site has been agreed with likely net cash proceeds of c.£0.9m.  We expect to be able to confirm the new location by the time of our next trading update in mid-October.

STAFF AND MANAGEMENT BONUS SCHEMES

The Group has expanded quickly over the past two years, and now has fifteen "Profit Centres" compared with two when we came to market in 2014.  With further expansion planned, the Board believed it was important to introduce a bonus scheme that both focused on ensuring that management teams would continue to be rewarded for growth at local level, whilst at the same time exploiting the benefits of being part of the Group.  In addition, it was important that each business was also accountable for the management of its own working capital, including the lifeblood of a successful distribution operation, inventory.

Therefore, from 1 January 2017, the Group introduced a bonus scheme that rewards at Profit Centre level and is based on a share of the operating profit produced above a threshold return on capital employed - an internal rate that is currently set at 20%.  This capital excludes any bank or other similar financing.  It therefore ensures that the Group has a bottom up approach to cash generation.

This scheme is also allowing the Group to quickly integrate acquisitions as new management teams have a simple reward programme to follow.  We are creating "best practice" KPI comparisons within the Group, such as gross margin %, payroll efficiency and stock turns, which will create a drive to match the best performance in each division. 

Whilst implementation of the profit sharing scheme has increased payroll costs when compared to 2016, the Board sees the adoption of this scheme as a fundamental for the future development of the Group; over time this scheme will replace the share-based reward systems that are currently in place for staff employed at Profit Centre level.

OUR PEOPLE

At Operating Board level, we congratulate Paul Smith on his promotion to Managing Director of TSL, and we welcome Managing Directors, Maurice Kearney (Hi-Power), Kirk Duncan (HTL), Spencer Rogers (OCL) and most recently, Leo Voogd (The Hydraulic Group - Hydroflex).

Delivering our goals and objectives we now have over 400 skilled staff employed across five countries and in eighteen locations, and we take this opportunity to welcome all new colleagues who joined us this year.  The Board thanks everyone around the business for their continuous hard work, dedication and loyalty, which underpins both customer relationships and the Group's overall performance.

OUTLOOK

The Group's current underlying performance will deliver another year of solid progress.  As a business, we are confident in our strategy, commercial opportunities and the prospects, and with a strong start to the second half are on track to meet current market expectations for the year ending 31 December 2017.

EARNINGS PER SHARE AND DIVIDEND

As shareholders are aware, the Board is focused on capital growth and increasing ROCE, now supported by our staff "Profit Sharing" bonus scheme.  We are also committed to a progressive dividend policy based on the Group's operational performance whilst balancing our investments in the business for the future. 

In the first half, Earnings Per Share has reduced to 5.22p from 5.91p in 2016, as a result of the fundraising in March which increased the weighted average number of shares in issue by 10.0% (see note 6), and the costs associated with our acquisition activity during the same period of £510,000 (2016 £238,000 - see note 3).  With the full year effects of the investment of this capital now expected to be seen in late 2017 and 2018, the Board expects Earnings Per Share to return to growth    The Board is therefore pleased to declare a half-year dividend of 1.93p (2016: 1.84p), a 5% increase.  This interim dividend will be paid on 24 October 2017 to Members on the Register at the close of business on 29 September 2017.  The shares will become ex-dividend on 28 September 2017.  The dividend is covered 2.5 times by earnings.

We look forward to keeping investors updated over the coming months, and will provide further information on our performance during Q3 on 17 October 2017.

By order of the Board

12 September 2017