HARDIDE PLC - Allenby Capital Limited · Oxfordshire facility was established and first commercial...

HARDIDE PLC Initiation December 2019

Matt ButlinHead of [email protected]

Graham BellHead of [email protected]

Kelly GardinerEquity [email protected]

Guy McDougallEquity [email protected]

Amrit NahalEquity [email protected]

Jos PinningtonEquity [email protected]

Tony QuirkeEquity [email protected]

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TABLE OF CONTENTS

INVESTMENT OVERVIEW 4

FY 2019 RESULTS 6

CHEMICAL VAPOUR DEPOSITION (“CVD”) 8

LOCATIONS AND REACTOR NUMBERS 10

END MARKETS 12

FINANCIALS & VALUATION 14

FINANCIAL STATEMENTS 16

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INVESTMENT OVERVIEW

Hardide’s patented technology enables metal components used within a wide range of

high-end manufacturing processes to be coated with a thin layer of Tungsten Carbide.

This coating significantly strengthens and enhances the operating performance of the

component and hence, reduces operational downtime and extends the useful life.

Recent significant capital investment in both Hardide’s UK and USA facilities is

expanding its number of reactors from the current six to nine by the end of 2020. This

capacity expansion combined with a diversifying and growing end customer base has

positioned the Company for significant revenue growth and operational gearing.

FY results to end September 2019

Results for the full year ended 30 September 2019 showed continued growth with

revenues up 9.5% year on year to a new high of £5.05m. Growth was driven by the

broadening of both the customer and sector base with the North American region being

the biggest geographical driver. Gross margins slipped in the period due to the previously

flagged product mix in the first half of the year however margins rebounded in H2. The

current year has started strongly, and the Company confirmed that plans remain on track

for the additional reactor to be installed at the US facility in spring 2020 and that the new

UK facility will be operational by September 2020. Aided by the £3.5m (net) February 2019

fundraise the balance sheet remains strong with a net cash position of £4.6m at year end.

Chemical Vapour Deposition (“CVD”) process

Hardide has created a range of tungsten carbide-based coatings used for increasing the

life and improving the performance of critical metal parts in high end engineering. The

coatings are applied by way of Chemical Vapour Deposition (“CVD”). CVD involves the

reactive gases being fed into a vacuum reactor containing the metal parts to be coated.

The gases react on the heated surfaces of the components and form a tough and corrosive

resistant coating. The process is particularly useful for creating a thin and uniform layer to

internal surfaces and complex shapes.

History, first commercial revenues in 2004

The UK based Company was established in 2000 with a strategy to commercialise a patent

for the Hardide Chemical Vapour Deposition (“CVD”) coating process where the

fundamental technology behind it had been developed at Moscow University and the

Russian Academy of Science Institute of Physical Chemistry. In 2003 the Bicester,

Oxfordshire facility was established and first commercial revenues were booked in early

2004. In 2005 the Company listed on AIM and raised £1.75m to help fund development

including the development of revenues in the USA. 2016 saw the opening of the

Martinsville, Virginia, USA facility.

Suited for components used in aggressive environments

In certain operating environments part failure can be driven by high friction levels,

abrasion, or contact with chemicals. The Hardide technology enables critical components

to be coated with a thin layer of Tungsten Carbide providing significantly enhanced

toughness, wear and corrosion resistance and thus reduces the chance of part failure. The

technology has benefits in many fields, in particular where component failure could have

a devastating impact (aerospace) or where product downtime is expensive (oil and gas).

Diversification of earnings – no longer just a few customers served from one location

In 2014 the Company had one client which was responsible for 54% of group revenues. In

the same year 100% of production originated from the Oxfordshire site. By 2018 the

largest customer accounted for just 23% of revenue and 19% of production originated

from the second site in Virginia. Over the last decade the Company has transformed from

being essentially an oil and gas drilling and production focused business to now generating

significant revenues from aerospace, flow control, power generation and precision

engineering.

Key data

Ticker HDD.L

Listing AIM

Shares in issue (m) 49.15

Share price (p) 60.0

Market Cap (£m) 29.49

Net debt/(cash) (Last reported) (4.60)

Year End Sept.

Sector Engineering

Source: Company data, Thomson Reuters

Two year share price performance

Share price performance

Key shareholders

Cannacord Genuity Wealth Management 14.0%

R Boyce & Associates 13.8%

A Badenoch & Associates 11.4%

Amati Global Investors 9.2%

Unicorn Asset Management 5.8%

Cannacord Genuity (Private Clients) 4.4%

Mr T Simpkin 4.0%

Mr WSC Richards OBE 3.7%

Source: Company data

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50% expansion in reactor numbers in both the UK and US

The coating process requires for the components to be placed in a vacuum reactor, which

is then heated for the Tungsten Carbide coating to be created, a process from start to

finish which takes between 12-24 hours. Thus, production volumes are limited to the

number of reactors available for use. Six reactors are currently available, but this is being

increased to nine by the end of 2020. One of the new reactors is being built at the US

facility (taking the US to four) with the other two in the UK (taking the UK from three to

five). One of the UK’s new reactors will be of larger dimensions and thus able to take

product up to 1.5m in length from the current 1m.

New reactors and also new UK production facilities

The increase in reactor numbers in the UK is being combined with a move to a new facility

which is expected to be fully operational by September 2020. The current facility, on an

industrial site in Bicester, Oxfordshire, was established in 2003 and has been gradually

extended by buying additional units as reactor numbers grew from one to three. Although

functional, the layout is suboptimal and room for expansion limited. The new custom-built

facility is less than a mile away from the existing site, is open plan and double the existing

site’s size. The three existing reactors will be moved over one at a time and upgraded

during the 6-7 week move process. During the UK move process the Company plans to

always have a minimum of three reactors active.

Gold plated assets, business de-risked and positioned for growth

By the end of the next financial year Hardide’s production capacity will have increased by

over 50% from current levels. With a more impressive and functional UK facility, combined

with being able to produce product from two locations we view Hardide as perfectly

positioned to win and fulfil orders from an expanding client base. On top of the core Oil &

Gas revenues, significant momentum is being achieved in other sectors, particularly in

aerospace and flow control. As such, we expect Hardide to be able to make full use of the

additional capacity. The Company should comfortably achieve double digit top line growth

over at least the next two to three years.

Positioned for growth – a likely acquisition target

Adoption of the Hardide product range has taken longer than originally hoped for.

However, significant breakthroughs into major end markets are now being achieved and

the capacity will soon be in place to deliver on this increasing demand. The potential of

the Company is yet to show in reported or near-term financial forecasts and so traditional

valuation multiples analysis does not currently highlight the inherent value. We do not

think the technology and the industry leading gross margins that the Company is already

achieving will have gone unnoticed by larger industrial coatings players. We believe

Hardide would make an attractive target for one of these players as they look to grow

revenues, increase margins and expand their product offering.

Summary Financials (£'000)

Y/E September 2017 2018 2019 2020E 2021E

Revenue 3,241 4,613 5,052 5,810 7,088

Growth 51.3% 42.3% 9.5% 15.0% 22.0%

EBITDA (735) (301) (627) (345) 286

EBITDA margin -22.7% -6.5% -12.4% -5.9% 4.0%

Profit/(loss) before tax (1,235) (913) (1,190) (885) (254)

Earnings per share (2.86) (2.08) (2.49) (1.70) (0.42)

Net Debt/(Cash) (1,195) (3,234) (4,595) (1,519) (1,309)

EV/Sales (x) 7.68 5.40 4.93 4.28 3.51

EV/EBITDA (x) na na na na 87.1

Source: Company data, Allenby Capital

Reducing reliance on single customer/single facility

Source: Company data. 2019 breakdown not yet available.

Reactor numbers, +50% growth anticipated in 2020


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Largest customer contribution US facility production contribution

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FY 2019 RESULTS

Results for the full year ended 30 September 2019 showed continued solid growth with

revenues up 9.5% year on year to a new high of £5.05m. Growth was driven by the

continued broadening of both the customer and sector base with the North American

region being the biggest geographical driver. Gross margins slipped in the period due to

the previously flagged product mix in the first half of the year however a strong rebound

in H2 bodes well for the future. The current year has started strongly, and the Company

confirmed that plans remain on track for the additional reactor to be installed at the US

facility in spring 2020 and that the new UK facility, with two new reactors, will be

operational by September 2020. Aided by the £3.5m (net) February 2019 fundraise the

balance sheet remains strong with a net cash position of £4.6m at year end.

Solid top line growth driven by a North America.

First half year growth of 8.7% was followed by 10.2% year on year growth in the second

half resulting in full year revenue of £5.05m (+9.5% yoy). North American revenues now

account for 65% of Group sales and revenues from the region grew 18% in the year

(implying 3.5% contraction in UK/Europe). Growth in the US was helped by the third

coatings reactor and the additional large pre-treatment line installed at Martinsville in

November 2018. Demand was particularly strong from the flow control and oil and gas

sectors.

Oil & Gas remains dominant, but diversification of revenues continued

The Company does not break out revenues by sector but it is known that Oil & Gas remains

its largest end market. The 9.5% group revenue growth was achieved despite the Company

stating that oil & gas revenues fell by 9% in the year. The weakness in Oil & Gas (which we

believe to be of a temporary nature given that the Company stated that H2 Oil & Gas

revenues grew 22% compared to H1) was more than offset by growth in other end markets

such as:

– 87% increase in sales to the flow control sector

– 40% increase in sales to the precision engineering sector

– 14-fold increase in sales of coated industrial diamonds

The Company noted that over half of sales in the period were from customers gained in

the last four years.

Gross margins recovery in H2 2019

Full year gross margins slipped to 47.8% from 52.3% in 2018. The fall was predominantly

caused by the adverse product mix in 1H when gross margins slipped to 44.6% before

recovering to 50.7% in the second half of the year. Margins were also under pressure in

the period due to the increase in headcount in production staff ahead of the expected

increase in activity. Management expectations are for gross margins in the current year to

be around the higher rate of 50.7% achieved in the second half of 2019.

The resultant £2.4m gross profit was in line with the £2.4m achieved in 2018 – the revenue

growth being offset by gross margin contraction. A 12% increase in administrative

expenses, again driven by investment for growth, resulted in an increase in the underlying

EBITDA loss from £0.30m in 2018 to £0.63m in 2019.

Balance sheet remains healthy, net cash position of £4.6m

Hardide has a relatively straight forward balance sheet although there were some

exceptions in the end 2019 balance sheet worth noting. Inventories held at year end

usually run at around 5-6% of revenues. There was a spike to £691k worth of inventories,

or 13.7% of revenues at the period end as the Company acquired a substantial amount of

key process gas at a discounted price, this also explains the higher than usual trade

payables balance. Trade receivables were also slightly higher than usual driven by the

2019 results - Summary financials

2018 2019 change

Revenues 4,613.0 5,052.0 9.52%

Gross Profit 2,412.0 2,417.0 0.21%

Gross Margin 52.29% 47.84% -444bp

Adj. EBITDA (301.0) (627.0)

Net Debt/(Cash) (3,234.0) (4,595.0)


2019 Gross margin of 47.8% (44.6% 1H, 50.7% 2H)


N. America revenues by destination now 65% of Group


3,241

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strong trading towards the end of the year. In total, £585k was absorbed into working

capital in the period but we expect more normal working capital levels going forward.

The £1.1m cash absorbed by operations, combined with the £1.1m spent on P,P&E

(investment in the new UK site move and the three new reactors) was offset by the

February 2019 £3.6m equity raise. This resulted in an increase in cash in the year of £1.5m

to £4.8m and a resultant £4.6m net cash position.

Outlook – strong start to current financial year

The Company notes that there has been a strong start to the new financial year and that

the Board is confident of continued growth. Management expects gross margins for the

year to be around the high level achieved in H2 2019. The additional reactor in the US will

be installed in spring 2020 and the project to relocate the UK business to a new site and

install two new reactors is on track and will be operational by September 2020.

2019 results – Summary Financials – Y/E September

2018 2019 YoY change

Revenue 4,613.00 5,052.00 9.52%

Cost of sales (2,201.00) (2,635.00) 19.72%

Gross profit 2,412.00 2,417.00 0.21%

Gross profit margin 52.3% 47.8%

Administrative expenses (2,711.00) (3,037.00) 12.03%

as a % of sales 58.8% 60.1%

Depreciation & Amortisation (373.00) (481.00) 28.95%

Provisions for grant repayment/onerous lease and dilapidations (246.00) (101.00)

Operating profit/(loss) (918.00) (1,202.00) 30.94%

Net profit (865.00) (1,136.00) 31.33%

EPS - diluted (2.08) (2.49) 19.77%

EBITDA (pre exceptionals) (301.00) (627.00) 108.31%

Cash 3,302.00 4,809.00 45.64%

Net Debt/(Cash) (3,234.00) (4,595.00) 42.08%

Source: Company data. Please see page 16 for detailed financial statements.

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CHEMICAL VAPOUR DEPOSITION

Hardide has created a range of nano structured tungsten carbide based coatings used

for increasing the useful life and improving the overall performance of critical metal

parts in high end engineering. The coatings are applied by way of Chemical Vapour

Deposition (“CVD”). CVD involves the coatings being fed in into a vacuum reactor

containing the metal parts to be coated. The gases chemically react with the heated

surfaces of the components and form a tough and corrosive resistant coating. The

process is particularly useful for creating a thin and uniform layer over a surface

including over harder to access internal surfaces and complex shapes.

Coatings based on Tungsten Carbide

Tungsten Carbide (chemical formula “WC”) does not occur naturally and instead is formed

by combining tungsten metal with carbon at temperatures between 1,400°C and 2,000°C.

The compound, in its most basic form is a fine grey powder. WC is stable at room

temperature, incredibly strong (twice as stiff as steel), resistant to acids and has a high

melting point of 2,600°C. Tungsten Carbide is therefore an ideal compound for creating

coatings for metal parts that will be operating in abrasive, erosive, corrosive and

chemically aggressive environments. When applied correctly the coatings significantly

extend the life of the critical parts and tools.

The metal components to be coated are supplied by the customer to Hardide. They are

then cleaned, inspected for any imperfections and all relevant measurements recorded.

The components are then loaded into the coating reactor where they are heated to a

specific temperature of approximately 500°C. Once at the desired temperature the

Tungsten based gases are released into the reactor. As the gases pass over the metal parts

the resulting chemical reaction forms a smooth binder free layer of tungsten carbide. The

thickness and hence hardness of the coating can be altered for different end applications

by adjusting the process parameters including the temperature of the reactor and length

of time the component remains in the reactor under ‘reacting’ conditions. The

components are left to cool in the reactor and then can be removed, polished, re-

measured to confirm the precise required dimensions have been achieved and then the

components can be shipped back to the client.

Chemical Vapour Deposition - End product characteristics

Superior wear & erosion resistance Outperforms hard chrome by factor of 12 and cemented tungsten carbide by factor of 3.

Chemical Resistance Virtually pore-free structure provides very high protection against a range of corrosive and aggressive chemicals.

Tailored Hardness Gas phase of process allows precise control over hardness. Micro hardness of up to 4000HV can be achieved.

Ease of Finishing Only polishing required in contrast to expensive grinding with other technologies - especially with complex shapes.

Internal Surfaces and Complex Shapes Gas-phase deposition process allows uniform coating to form on internal surfaces and complex designs. This is not possible

for HVOF, Plasma Spray, D-Gun or PVD Coating technologies.

Toughness and Flexibility Follows contours of substrate and has high flexibility –substantially reducing the risk of cracking under deformation.

Coating Thinness CVD process requires no binder, creating a less bulky structure than alternative technologies.

Source: Hardide Plc

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Low temperature variant developed with grant support from Innovate UK

In order to widen the range of materials that can be coated using the Hardide CVD process

the Company has developed a low temperature variant of the Hardide coating. Grant

support for the project was received from Innovate UK, a UK government funded public

body established to drive productivity and economic growth in the UK. Two new ultra-

low temperature Hardide coating variants (Hardide-LT and Hardide-LA) have now been

launched and the process is now being tested by several potential end customers and

production orders have been received.

Six families of patents registered since incorporation

Traditionally CVD processes have been run at temperatures around 1,000°C. Impressively,

Hardide as developed a low temperature CVD process which operates at approximately

500°C. Whilst the years of experience and associated build-up of ‘know how’ will act as a

barrier to entry, the Company has also registered a series of patents to help protect its

position.

The patents include:

– Two patents covering the compositions, structure and deposition methods of

different types of Hardide coatings for metal parts. Key claims specify the

coatings chemical composition, which can be used as a “fingerprint” of Hardide

technology.

– Two patents on coatings for diamonds.

– Patents covering a self-sharpening cutting tool with hard coating.

– Patent covering a water droplet erosion resistant coating for turbine blades and

other components.

Alternate competitor processes

Other competing processes exist to create thin, hard coatings to strengthen metals.

However, the Hardide Chemical Vapour Deposition process has several advantages over

these competing technologies. The main advantage being that the CVD process can create

a uniform coating on all surface areas where other processes cannot cover complex shapes

and internal surfaces. Additionally, the Hardide CVD solution is binder free and so it is

stronger as the tungsten carbide does not require weaker materials to enable it to bind to

the metal.

Competing processes include:

– Hard Chrome Plating (“HCP”). Electroplating process that deposits a thin layer

of chromium from a chromic acid solution. Enhances wear and corrosion

resistance. Issues include poor or partial coverage and poor adhesion.

– High Velocity Oxy-Fuel ("HVOF"). HVOF coating is a high-velocity, high-

temperature spraying process that sprays the coated particles at supersonic

speed with high impact energy to strike the base material. Issues include that it

is a ‘line of sight’ technique (meaning it is not ideal for coating non-visible

surfaces). Furthermore, the process requires grinding after coating.

– Physical Vapour Deposition ("PVD"). The coating material is heated to form a

vapour which condenses on the substrate to form the coating. PVD is a line-of-

sight process and requires the substrate surface to be easily accessible. Other

issues include it has limitations on thickness and hence on strength.

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LOCATIONS AND REACTOR NUMBERS

Hardide’s headquarters and main production facility in Bicester, Oxfordshire was

opened in 2003. Growth in the UK has been slow but with momentum now building

quickly the site has hit production capacity. As such, the decision has been made to

move to a new, larger facility and increase the number of UK reactors from three to five.

The move is expected to complete in September 2020. The US has always been a key

market for the Company and a production facility was opened in Martinsville, Virginia

in 2016. Expansion is also planned in the US with a new reactor expected to be online in

March 2020 – taking the numbers from three to four. We view the establishment of the

US facility as a success as it has helped drive revenues from the region and has also

demonstrated management’s ability to transfer technology to a new location and hence,

we have confidence that further geographical expansion can be successfully executed.

UK capacity expansion driven by move to new 20,000sq ft facility by September 2020

The current 10,000 sq ft facility, located on an industrial site in Bicester, Oxfordshire, was

established in 2003. The site has been gradually extended by adding additional industrial

units thus enabling reactor numbers to grow from one to three. The site is functional, but

the layout, being a series of generally small rooms, is suboptimal and the availability of

space for further expansion limited. The lease on the current facility expires in 2021.

The Company has recently signed a 15-year lease on a new larger facility that will double

the available floor space and is located less than a mile away from the existing site. The

custom-built site is open plan which will better facilitate the movement of product and

materials. The new site has a higher roof and so will allow the installation of larger coating

reactors. The new building is impressive and located on a modern industrial site. We feel

this will create a better overall impression when dealing with visiting potential customers

compared to the current ‘tired’ facility.

Three new reactors have been ordered by Hardide, two of which will be installed in the

new UK facility (with the third going to the US). This will take the total UK reactor count to

five. One of the new reactors in the UK will be a larger reactor capable of taking product

up to 1.5m in length (current size limit is 1.0m). This larger reactor will allow for the coating

of larger components than is currently possible and so is expected to be of particular use

for turbine blades.

The three UK existing reactors will be moved over one at a time (and upgraded during

what will be a 6-7 week move process). As such, management expects that there will never

be less than three active reactors in the UK operational throughout the transition to the

new facility.

The total cost of the move to the new facility including: new build and fit out; two new

reactors; R&D facility; pre-treatment facility; transfer of existing reactors and kit; and the

additional lease costs is expected to be c.£3-£4m. This was part funded by the March 2019

£3.6m fundraise.

US 25,000 sq. ft Facility in Virginia opened in 2016

In order to better serve the Company’s North American clients a 25,000 sq ft

manufacturing facility was opened in Martinsville, Virginia in 2016. Having a US facility is

enabling Hardide to better exploit the large opportunity that the region presents not just

by shortening the delivery time to customers but also as it can now appeal to clients

attracted to using domestic producers. Additionally, having a second production facility

helps reassure clients (both in the UK and in the US) over security of supply.

At the time of opening, the Martinsville facility had two coatings reactors. With rising

demand this was increased to three in November 2018. Growth continues to be strong

from the region and in August 2019 Hardide announced that a further reactor had been

Reactor numbers increasing by 50% 2019-2020


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ordered which would be installed in Spring 2020 taking the total number of reactors in the

US to four.

Similar accreditations at both the UK & US facilities

Both the US & UK facilities have essentially the same accreditations and so most products

are capable of being coated at either location should one site be made unavailable.

Accreditations include:

– Aerospace quality management system AS9100 Rev D (UK Dec 2017) (US July

2018).

– Nadcap: the global aerospace accreditation (currently UK site only)

– Quality management system: ISO 9001:2015

– Environmental Standard : ISO 14001:2015 (currently UK site only)

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End markets

The Oil & Gas sector has traditionally been the dominant end market for Hardide. Given

the aggressive conditions in which new Oil & Gas reserves are found it is not surprising

that the sector is adopting a technology that enables critical tools to last longer and

hence reduce extraction costs. Hardide has also had significant breakthroughs in other

high value industries such as aerospace where it is building revenues through customers

such as Airbus, BAE Systems, Lockheed Martin and Leonardo Helicopters. Further end

markets include Flow Control, Power Generation and Precision Engineering.

Oil & Gas – cornerstone of revenue generation to date

Although now aggressively expanding into other end markets, the Hardide business has

been built to date on sales into the in oil and gas sector. Whilst the Company does not

release the names of its Oil & Gas customers, it has stated that it is working with leading

multi-national service companies, valve manufacturers and specialist drilling and

downhole technology providers.

The Hardide coatings products are used on metal parts both down in the well but also on

the surface. When used on drilling tools, the coatings can extend the drilling time (typically

by 3x-5x) and reduce the frequency of part replacement which has a clear cost benefit.

Typical Oil & Gas applications

Artificial lift equipment Mud pumps

Ball valves ROV parts

Cementing tools Rotary steerable tools

Choke valves Sand screens

Completion equipment Subsea chokes

Drill stem test tools Subsea stab connectors

Expandable tools Turbo drilling tools

MWD and LWD tools Well stimulation tools


Aerospace – Hardide-A developed specifically for the Aerospace industry

Given the critical nature of aerospace components the aerospace industry is also an

obvious sector to adopt Hardide coatings on critical parts. In anticipation of this demand

the Company developed Hardide-A as an environmentally compliant and technically

superior replacement for hard chrome plating (“HCP”) and High Velocity Oxy-Fuel

(“HVOF”) aerospace coatings. To date, the majority of Hardide coated parts used in the

aerospace industry have been in wing structure parts, specifically around moving parts

within the flaps structure but clearly there are multiple other applications throughout an

aircraft.

Compared to the Oil & Gas industry the aerospace industry is typically slow to adopt new

products and so it is not surprising that after working in the sector for over a decade it is

only recently that Hardide is beginning to make breakthroughs with some of the leading

industry players. The flip side of a reluctance to change is of course that when products

are accepted into the industry revenues can be predictable and lengthy.

In contrast to the Oil & Gas industry, aerospace customers are less secretive and hence

more open about being named alongside working partners. This has enabled Hardide to

announce its approved supplier status with BAE and Airbus to help make breakthroughs

with other industry players. Having both facilities (Bicester & Martinsville) approved to

aerospace standard AS9100 Rev D has further improved the attraction of Hardide as a

parts supplier given it can more easily supply both European and North American markets.

Also, dual site production capability reduces supply risk in the event of an unforeseen

closure of one of the facilities.

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Aerospace breakthrough in 2017 with Airbus approval

After several years of collaboration and technical testing, in December 2015 Hardide

announced that its Hardide-A coating had met Airbus technical performance requirements

as a potential alternative to hard chrome plating on some specific Airbus aircraft

components. Just over a year later in March 2017 the Company was able to announce that

it had attained Approved Supplier status from the Airbus Group. Since then, Hardide has

been working with several Tier 1 suppliers of Airbus on pre-production orders and is now

moving through to full production orders.

Other recent aerospace milestones include:

– June 17 - Nadcap accreditation received (Nadcap is the leading independent

certification program for special processes within the aerospace and defence

industry).

– August 18 – Funding awarded for two projects with the National Aerospace

Technology Exploitation Programme ("NATEP") to further the application of the

Hardide coating technology to aircraft components.

– May 19 - Hardide coating selected as the replacement for hard chrome plating

on Airbus A380 compression flap pads.

– August 2019 – Hardide selected for Airbus A330 wing components.

– November 2019 – Hardide selected for use on components for the new F-35

Lightening II Joint Strike Fighter (Lockheed Martin).

The Company is now well engrained in the aerospace industry and not just with Airbus.

Hardide has Approved Supplier status with BAE, is testing transmission components with

Leonardo helicopters with full approval expected in 2020, is running trials with Triumph

Aerospace Systems Group and has had Hardide coated parts flying for evaluation by a

global MRO (maintenance, repair and overhaul organisation) for over 4000 hours on an

Airbus A320.

Beyond Oil & Gas and Aerospace there are several other high value industries in which

Hardide has begun to generate revenues:

– Power generation turbine market. The Company is partnering on long term

projects with several manufacturers and users of power generating turbines.

One of the new reactors being installed at the Bicester facility is of larger

proportions so as to enable the larger turbine blade parts to be accommodated.

– Flow Control. In particular the Hardide coating is used with Ball Valves (a valve

which uses a hollow, pivoting ball to control liquid flow). Ball valves can be

damaged by hard objects such as sand in the fluid traveling through the valve at

high speed. The Hardide coating reduces the likelihood of damage. The coating

is also used with pumps, again which can be damaged by objects in the fluid

damaging critical components.

– Precision Engineering. Within Precision Engineering, one of the uses is within x-

ray baggage screening parts. Other uses include Construction equipment high-

wear parts, Motorsport components and Complex 3D printed components.

Industrial ball valve

Source: www.premierherald24.com

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FINANCIALS & VALUATION

As it is c.15 years since first commercial revenues and that revenues have only now

surpassed the £5m mark, it is fair to say that adoption of the Hardide product range has

taken longer than originally hoped for. However, although breaking into sectors such as

aerospace is proving to be a slow process, once integral to the supply chain we know

aerospace revenues can be predictable and lengthy. We now believe that Hardide is

perfectly positioned to turn this solid groundwork into meaningful sales across several

sectors in addition to aerospace whilst also building on its core Oil & Gas client base. The

new capacity expansion in both the US & UK will facilitate this expected acceleration

and has made Hardide a more attractive and capable supplier to large multinationals

insistent on security of supply. We forecast a 40% increase in revenues over the next

two years and a move into EBITDA profitability in 2021.

We expect 15% revenue growth in the year to September 2020 compared to the 9.5%

growth achieved in 2019. Our expectation is for an acceleration in revenue growth to 22%

in the year to September 2021 as this period will have had a full year’s benefit of the three

additional reactors.

Our model assumes 50% gross margins in 2020, essentially in line with the 50.7% achieved

in the second half of 2019. Economies of scale should allow gross margin expansion to

52% in 2021. Administrative expenses reached £3.04m in 2019 and we expect these to

reach £3.54m by 2021 as the Company absorbs the cost of the more expensive UK facility

(extra lease costs of c.£120k pa) and additional headcount in both the UK & US locations.

We note that the Company expenses rather than capitalises its R&D spend each year. The

end result is that we expect the group to break into EBITDA profitability in 2021 with a

positive profit after tax likely achieved the following year.

With regards to the Cashflow and the Balance sheet the main activity surrounds the

investment in PP&E at the new UK facility with its two additional reactors combined with

the new reactor being installed in the US. £1.1m was invested in 2019 and we expect this

to increase to £3.0m in 2020 as the main investment occurs. Investment spend is forecast

to fall to a more normalised £500k in 2021.

Valuation - attractive target for large industrial coatings player

Valuing Hardide has its restrictions given that the value of the technology and hence the

potential of the business is not yet represented in the reported financials or near-term

forecasts. As such, traditional multiples analysis currently has limited value. For example,

the Company trades on a negative EV/EBITDA multiple until 2021 on our forecasts. We do

however believe that the current market capitalisation of £29.5m is not representative of

the value of Company given that the technology has clear benefits for end users and is

now being adopted in several significantly sized markets.

As Hardide grows its revenue base, increases production capacity and expands its

quantum of customers and end markets we believe it will attract the attention of one of

the larger industrial coatings players. A larger player, with a bigger distribution platform

and existing wider customer base would likely be able to accelerate the Hardide revenues

and expand the already industry leading margins beyond what could be achieved on a

standalone basis.

Hardide has many competitors, both public and private, many of which we believe could

be interested in the Hardide technology. None are directly comparable and many have

high end coatings businesses alongside more commodity type products such as retail

paints. The chart below shows a mix of players in the industrial/specialty coatings space

and the gross margins they are currently achieving.

40% revenue growth forecast over next 2 years


Hardide – Valuation summary

Price 60.00 Net cash 4.60

Mkt. Cap 29.49 EV 24.89

2018 2019 2020 2021

EV/Sales (x) 5.40 4.93 4.28 3.51

EV/EBITDA (x) -82.7 -39.7 -72.1 87.1


3,241

4,6135,052

5,810

7,088

51.3%

42.3%

9.5%

15.0%

22.0%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%

0.0

1,000.0

2,000.0

3,000.0

4,000.0

5,000.0

6,000.0

7,000.0

8,000.0

2017 2018 2019 2020e 2021e

Revenues (LHS) Revenue Growth(RHS)

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Whilst none of the above companies may necessarily have an interest in Hardide the chart

does show that Hardide is achieving impressive gross margins even before it has started

to benefit from major economies of scale. As such, we believe the Company is already an

attractive acquisition target.

Hardide vs. Large Cap Coatings players - Gross Margins

49%

45% 44%

40%

38%36%

52%

42% 41% 41%

38%

34%

30%

35%

40%

45%

50%

55%

2017 2018

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FINANCIAL STATEMENTS

INCOME STATEMENT – Year End September - £’000

Sept-17 Sept-18 Sept-19 Sept-20e Sept-21e Comments Revenue 3,241.0 4,613.0 5,052.0 5,809.8 7,088.0

Growth 0.0% 42.3% 9.5% 15.0% 22.0% New UK facility and all three new reactors

(2 UK, 1 US) operational for FY 2021

Cost of sales (1,651.0) (2,201.0) (2,635.0) (2,904.9) (3,402.2)

Gross profit 1,590.0 2,412.0 2,417.0 2,904.9 3,685.7

Gross profit margin 49.1% 52.3% 47.8% 50.0% 52.0% 2019 margin dip product mix, reverse expected

Administrative expenses (2,325.0) (2,711.0) (3,037.0) (3,250.0) (3,400.0)

as a % of sales 71.7% 58.8% 60.1% 55.9% 48.0%

Depreciation & Amortisation (503.0) (373.0) (481.0) (550.0) (550.0)

Exceptional item - (246.0) (101.0) - -

Operating profit/(loss) (1,238.0) (918.0) (1,202.0) (895.1) (264.3)

Finance income 4.0 8.0 15.0 12.0 12.0

Finance costs (1.0) (3.0) (3.0) (2.0) (2.0)

Profit/(loss) before tax (1,235.0) (913.0) (1,190.0) (885.1) (254.3)

Tax 139.0 48.0 54.0 50.0 50.0

tax rate 11.3% 5.3% 4.5% 5.6% 19.7%

Net profit (1,096.0) (865.0) (1,136.0) (835.1) (204.3)

Earnings per share

Basic (2.86) (2.08) (2.49) (1.70) (0.42)

Diluted (2.86) (2.08) (2.49) (1.70) (0.42)

Wtd average number of shares (m) 38.4 41.5 45.6 49.1 49.1

FX difference on translation of foreign operations (42.0) 47.0 50.0 50.0 50.0

Total comprehensive profit/(loss) for the year (1,138.0) (818.0) (1,086.0) (785.1) (154.3)

EBITDA (underlying) (735.0) (301.0) (627.0) (345.1) 285.7 Group EBITDA profitability expected 2021


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Balance Sheet – Year End September - £’000

Sept-17A Sept-18A Sept-19A Sept-20E Sept-21E Comments

Goodwill 69.0 69.0 69.0 69.0 69.0

Intangible assets 1.0 25.0 30.0 30.0 30.0

Property, plant & equipment 1,490.0 2,033.0 2,745.0 5,195.0 5,145.0

Non-current assets 1,560.0 2,127.0 2,844.0 5,294.0 5,244.0

Inventories 160.0 286.0 691.0 406.7 496.2 2019 inventory spike, expect reversal

Trade & other receivables 622.0 749.0 1,003.0 929.6 1,134.1

Other current financial assets 242.0 265.0 277.0 277.0 277.0

Cash & cash equivalents 1,212.0 3,302.0 4,809.0 1,732.6 1,523.3

Current assets 2,236.0 4,602.0 6,780.0 3,345.9 3,430.5

Total assets 3,796.0 6,729.0 9,624.0 8,639.9 8,674.5

Trade & other payables 488.0 1,336.0 1,351.0 1,162.0 1,360.9

Financial liabilities 5.0 10.0 50.0 50.0 50.0

Provision for grant repayment - 246.0 260.0 260.0 260.0

Current liabilities 493.0 1,592.0 1,661.0 1,472.0 1,670.9

Financial liabilities 12.0 58.0 164.0 164.0 164.0 Small debt associated with US facility

Non-current liabilities 12.0 58.0 265.0 265.0 265.0

Total liabilities 505.0 1,650.0 1,926.0 1,737.0 1,935.9

Net assets 3,291.0 5,079.0 7,698.0 6,902.9 6,738.6

Share capital 3,242.0 3,405.0 3,673.0 3,673.0 3,673.0

Share premium 10,306.0 12,676.0 15,987.0 15,987.0 15,987.0

Retained earnings (10,060.0) (10,925.0) (11,964.0) (12,709.1) (12,823.4)

Share-based payments reserve 235.0 308.0 274.0 274.0 274.0

Translation reserve (432.0) (385.0) (272.0) (322.0) (372.0)

3,291.0 5,079.0 7,698.0 6,902.9 6,738.6

Balance Sheet ratios Sept-17A Sept-18A Sept-19A Sept-20E Sept-21E

Short term debt 5.0 10.0 50.0 50.0 50.0

Long term debt 12.0 58.0 164.0 164.0 164.0

Gross debt 17.0 68.0 214.0 214.0 214.0

Cash 1,212.0 3,302.0 4,809.0 1,732.6 1,523.3

Net debt/(cash) (1,195.0) (3,234.0) (4,595.0) (1,518.6) (1,309.3)


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CASHFLOW STATEMENT - Year End September - £’000

Sept-17A Sept-18A Sept-19A Sept-20E Sept-21E Comments

Operating loss (1,238.0) (918.0) (1,202.0) (895.1) (264.3)

Impairment of intangibles 1.0 2.0 7.0 - -

Depreciation 503.0 371.0 474.0 550.0 550.0

Share option charge 51.0 73.0 62.0 40.0 40.0

(Increase) in inventories (100.0) (124.0) (392.0) 284.3 (89.5)

(Increase) in receivables (91.0) (149.0) (266.0) 73.4 (204.5)

Increase in payables 78.0 793.0 73.0 (189.0) 198.9

Increase in provisions - 246.0 116.0 - -

Cash generated from operations (796.0) 294.0 (1,128.0) (136.4) 230.7

- - - - -

Finance income 4.0 8.0 16.0 12.0 12.0

Finance costs (1.0) (3.0) (3.0) (2.0) (2.0)

Tax received 207.0 93.0 - 50.0 50.0

Net cash generated from operating activities (586.0) 392.0 (1,115.0) (76.4) 290.7

Assumed new UK facility and associated

Purchase of property, plant and equipment (152.0) (887.0) (1,106.0) (3,000.0) (500.0) kit c.£2.0m, 3 new reactors c.£2.0m

Net cash used in investing activities (152.0) (887.0) (1,106.0) (3,000.0) (500.0)

Net proceeds from issue of ordinary share capital - 2,533.0 3,578.0 - -

Finance lease repayment (17.0) (3.0) - - -

Loans raised - 55.0 139.0 - -

Loans repaid - - (27.0) - -

Net cash generated from financing activities (17.0) 2,585.0 3,690.0 - -

Net increase /(decrease) in cash and cash equivalents (755.0) 2,090.0 1,507.0 (3,076.4) (209.3)

Cash and cash equivalents at the beginning of the year 1,967.0 1,212.0 3,302.0 4,809.0 1,732.6

cash and cash equivalents at the end of the year 1,212.0 3,302.0 4,809.0 1,732.6 1,523.3

Source: Allenby Capital, Company data

Allenby Capital

Disclaimer

Allenby Capital Limited (“Allenby”) is incorporated in England no. 6706681; is authorised and regulated by the Financial Conduct Authority (“FCA”) (FRN: 489795) and is a member of the London Stock Exchange. This communication is for information only it should not be regarded as an offer or solicitation to buy the securities or other instruments mentioned in it. It is a marketing communication and non-independent research, and has not been prepared in accordance with the legal requirements designed to promote the independence of investment research, and is not subject to any prohibition on dealing ahead of the dissemination of investment research. The cost of Allenby research product on independent companies is paid for by research clients. This communication is for the use of intended recipients only and only for distribution to investment professionals as that term is defined in article 19(5) of The Financial Services and Markets Act 2000 (Financial Promotion) Order 2005. Its contents are not directed at, may not be suitable for and should not be relied upon by anyone who is not an investment professional including retail clients. Any such persons should seek professional advice before investing. For the purposes of this communication Allenby is not acting for you, will not treat you as a client, will not be responsible for providing you with the protections afforded to clients, and is not advising you on the relevant transaction or stock. This communication or any part of it do not form the basis of and should not be relied upon in connection with any contract. Allenby uses reasonable efforts to obtain information from sources which it believes to be reliable. The communication has been prepared without any substantive analysis undertaken into the companies concerned or their securities, and it has not been independently verified. No representation or warranty, express or implied is made, or responsibility of any kind accepted by Allenby its directors or employees as to the accuracy or completeness of any information in this communication. Opinions expressed are our current opinions as of the date appearing on this material only and are subject to change without notice. There is no regular update series for research issued by Allenby. No recommendation is being made to you; the securities referred to may not be suitable for you and this communication should not be relied upon in substitution for the exercise of independent judgement. Neither past performance or forecasts are a reliable indication of future performance and investors may realise losses on any investment. Allenby shall not be liable for any direct or indirect damages including lost profits arising from the information contained in this communication. Allenby and any company or persons connected with it, including its officers, directors and employees may have a position or holding in any investment mentioned in this document or a related investment and may from time to time dispose of any such security or instrument. Allenby may have been a manager in the underwriting or placement of securities in this communication within the last 12 months, or have received compensation for investment services from such companies within the last 12 months, or expect to receive or may intend to seek compensation for investment services from such companies within the next 3 months. Accordingly, recipients should not rely on this communication as being impartial and information may be known to Allenby or persons connected with it which is not reflected in this communication. Allenby has a policy in relation to management of conflicts of interest which is available upon request. This communication is supplied to you solely for your information and may not be reproduced or redistributed to any other person or published in whole or part for any purpose. It is not intended for distribution or use outside the European Economic Area except in circumstances mentioned below in relation to the United States. This communication is not directed to you if Allenby is prohibited or restricted by any legislation or registration in any jurisdiction from making it available to you and persons into whose possession this communication comes should inform themselves and observe any such restrictions. Allenby may distribute research in reliance on Rule 15a-6(a)(2) of the Securities and Exchange Act 1934 to persons that are major US institutional investors, however, transactions in any securities must be effected through a US registered broker-dealer. Any failure to comply with this restriction may constitute a violation of the relevant country’s laws for which Allenby does not accept liability. By accepting this communication, you agree that you have read the above disclaimer and to be bound by the foregoing limitations and restrictions.

Research Recommendation Disclosure Matt Butlin is the author of this research recommendation and is employed by Allenby Capital Limited as an Equity Analyst. Unless otherwise stated the share prices used in this publication are taken at the close of business for the day prior to the date of publication. Information on research methodologies, definitions of research recommendations, and disclosure in relation to interests or conflicts of interests can be found at www.allenbycapital.com. Allenby Capital acts as Joint broker to Hardide plc.

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