Sales increased by 36% y/y and was 4% short of our forecast. The organic growth was 7% y/y. North America and the smaller regions came in somewhat lower than anticipated, while the Rest of Europe was slightly stronger. Management is satisfied with the performance in the strategic growth markets (the US, UK and Germany) and believes Hexatronic’s operations have done well relative to the market. However, management notes a softening of the growth in several of its markets, including all three structural growth markets, and expects low positive or zero growth during H2 2023.

Regarding the US, we interpret that the FTTH offering (Hexatronic US) is doing well, while BDI (conduit & pipe) sees a lower demand. However, the softening is expected to be temporary due to the structural need for investments in FTTH and the Infrastructure Investment & Jobs Act (the Biden deal) - expected to boost demand in 2024 and over the next 7-8 years for both FTTH and conduit & pipe. Also, Hexatronic continues to expand its conduit & pipe/micro duct capacity in the US, with investments in Utah and the South Carolina factory expected to reach full capacity in H2 2023 due to its positive mid/long-term view of the market. The Utah facility is expected to be operational in early Q3 2024. While management expects a flat US market during H2 2023, due to the increased capacity from BDI South Carolina and a favorable customer mix in FTTH, we expect some organic growth.

Management expects market growth of 0-5% for the UK and Germany for 2023. 0-5% is low compared to Hexatronic’s growth in those markets so far during 2023, indicating increased market share rather than management expecting negative growth in H2 2023.

EBITA was SEK405m, largely matching our forecast of SEK400m, corresponding to a solid EBITA margin of 17.9%. While the gross margin came in somewhat lower than anticipated, OPEX was flat q/q despite Rochester being included for the full quarter and came short of our forecast. We have likely underestimated the non-disclosed integration costs related to Rochester in Q1 2023.

Operating cash flow was solid SEK348m (176), partly thanks to a positive contribution from net working capital (NWC) of SEK38m (-136). The solid numbers should ease worries about Hexatronic’s cash flow and inventory. However, NWC as a share of R12m sales was ~20%, down from ~21% in Q1 2023 but above the ~19% in Q1 2022. Hexatronic continues to focus on reducing its inventory levels and NWC typically declines as a share of R12m sales during H2.

The organic order intake was -29% y/y. While the number looks dramatic, the decline is mostly due to normalizing supply chains. During 2022 the order book increased from two to five months of sales; today, it is at three months. Management expects it to decline to two months during 2023. However, softer demand had some impact as well.

While we likely have been too optimistic about H2 2023 and 2024 growth, we believe the current softening is temporary. The rationale for building FTTH remains unchanged, and the penetration rates are still low in the strategic growth markets. How long the downturn will last is hard to say, but we feel confident that demand for FTTH will be strong in the mid/long term as lagging countries strive to improve their digital infrastructure. The Infrastructure Investment & Jobs Act (the Biden deal), where the digital infrastructure part is worth USD42.5bn, should boost demand in the US market, both for FTTH and BDI, implying a rebound already in 2024 – at least in the critical US market.

In late June, Hexatronic announced the acquisition of Fibron, a UK-based leading original equipment manufacturer within harsh environments electro-optical cables. Hexatronic will improve its position within high-quality umbilical solutions and underwater cables by purchasing Fibron. Fibron’s comprehensive portfolio serves traditional energy applications such as renewables (wave, tidal, and wind), ROV, defence, and diving. Also, its global customer base complements Hexatronic’s existing.

In line with management’s ambition to strengthen Hexatronic’s exposure with 5G, Data Centers, and Harsh Environment – to provide diversification from the currently dominated FTTH exposure (~50% of sales) – the acquisition of Fibron increases the share of the revenue from Harsh Environment from ~7% to above 11%.

Management sees several synergies with Rochester Cable, a US-based business Hexatronic consolidated on 1 January 2023., such as cross-selling, production capabilities, and increased geographical reach.

Hexatronic pays up to GBP32m, GBP25m upfront and up to GBP7m in potential earn-out for the company that is expected to generate GBPc5m in EBITDA in 2023, corresponding to 6x EBITDA – in line with historical levels.

We lower our sales forecast for 2023 and 2024 by 6-14%. The strategic growth markets seem to have softened more substantially than expected. Although Hexatronic is a relative winner, we now expect lower sales growth. While we expect a rebound in 2024, partly due to the Infrastructure Investment & Jobs Act (the Biden deal), expect organic growth of 10-15% rather than 15-20% previously on the group level.

Due to the lower OPEX than expected in Q2 and the lowered sales forecasts, we lowered our OPEX forecasts. As Hexatronic is currently running at a high utilization rate in most factories, we expect a somewhat lower need for investments and OPEX, given our more defensive sales outlook.

Nevertheless, as a share of sales, we increase the OPEX forecasts somewhat, resulting in a slightly lower EBITA margin for 2023 and 2024. Combined with the lowered sales forecasts, we reduced our EBITA forecasts for 2023-2024 by 9-17%.

We lower our Base Case to SEK101 (122) following mainly lowered sales forecasts. Although we believe the market softness is temporary, as investments in FTTH remain important for underpenetrated countries, we now assume slightly lower growth rates over the mid- and long-run.

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, the bulk of revenues are generated from FTTH. However, Hexatronic has a solid M&A track record, and several recent acquisitions, such as DCS, Weterings, and Rochester have added exposure to non-FTTH segments. Also, at least five-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 6% in terminal EBIT margin compared to 11% in our base case. In the bear case, we assume the maturity of the current growth markets, the US, the UK and Germany will have a significantly negative impact on growth and margins and that Hexatronic is unable to offset the downturn with new markets or segments.