Victrex plc – Annual report – 30 September 2018
Financial review (extract)
The Group continues to consider the potential impact of Brexit on its business and has a team in place to consider various contingencies, through the transition period and beyond. For now, existing laws and trading arrangements are unchanged.
Based on our assessment of the latest available information, our principal risk continues to be that there could be a sustained period when the Group may not be able to import certain raw materials or export finished goods through Customs, which could curtail sales if regional inventory levels were depleted. In mitigation, additional warehousing for finished goods stock has been secured in mainland Europe and China which will allow a minimum of eight weeks of finished goods stock to be held outside the UK by the end of March 2019. We have also secured some additional raw material stocks. Group inventories could exceed £80m through FY 2019 as a consequence (FY 2018: £69.3m).
Victrex has attempted to assess the potential financial impact of a ‘no deal’ Brexit. Should standard WTO tariffs be applied, increased costs may be incurred through the application of duties to the import of certain raw materials and on the export of finished goods. It is possible in the first year following our exit from the EU that these could be substantially mitigated by a weakening of Sterling, but this is heavily dependent on the timing of any deal announcement and resulting currency market movements. As the only current manufacturer of PEEK products in the EU, we are also preparing to exploit longer-term tariff mitigation strategies that may be available to us.
An Executive Committee has been established to monitor Brexit developments and direct mitigating actions. The Company continues to monitor the situation closely.
Going concern and viability statement (extract)
1. Assessment of prospects
The Directors have assessed the Group’s longer-term prospects, primarily with reference to the results of the Board-approved five-year strategic plan. This is driven by the Group’s business model (detailed on pages 6 and 7) and strategy (detailed on pages 12 and 13), which are fundamental to understanding the future direction of the business, while factoring in the Group’s principal risks (detailed on pages 23 to 25). The Directors have also considered the Group’s current strong financial position, including the level of cash at 30 September 2018 and the Group’s ability to generate cash.
The strategic planning process is undertaken annually, and includes analyses of profit performance (including our core business and new product pipeline and mega-programmes), cash flow, investment programmes (including options to increase our polymer manufacturing capacity and our acquisition pipeline) and returns to shareholders.
Completion of the strategic plan is a Group-wide process engaging employees throughout the business, including all senior management in their respective areas. The strategy is reviewed and approved by the Board with the latest strategy (covering the five years to September 2023) being approved in March 2018. Subsequently, the more detailed budget for the year ending 30 September 2019 has been finalised, which upholds the key assumptions in the 2018 strategy.
The Board considers five years to be an appropriate time horizon for our strategic plan, being the period over which the Group actively focuses on its development pipeline. As part of our longer-term considerations, to support capacity planning and assessment of projects which will take longer to reach meaningful revenue, the Group does prepare forecasts for a period of more than five years; however, a period greater than five years is considered too long for the strategic plan given the inherent uncertainties involved.
2. Viability period
The Directors have assessed the viability of the Group over the five-year period to September 2023, being the period covered by the Group’s Board-approved strategic plan.
3. Assessment of viability
To make their assessment of viability, the Directors have tested a number of additional scenarios on the base case position of the March 2018 five-year strategic plan. These scenarios encompass key trading assumptions combined with the potential impact of crystallisation of one or more of the principal risks over the five-year period. Whilst each of the principal risks has a potential impact, the scenario analysis has been focused on those considered to have the most significant financial impact. The risks have been assessed for their potential impact on the Group’s business model, future trading and funding structure.
The downside scenarios applied to the strategic plan are as follows:
The scenarios tested on page 26 were carefully considered by the Directors, factoring in the potential impact, probability of occurrence and the effectiveness of the mitigating actions. In addition, whilst considered implausible, a combined scenario was also tested, which contained an aggregation of all scenarios considered.
Further to the risk mitigation plans, the Group’s two distinct segments, both with diverse geographic markets and fragmented customer bases, assist in reducing the risk of regional economic challenges and sector/customer-specific issues. The strategy of partnering closely with customers to develop the right applications and our existing and growing list of specified products are also important mitigants.
The mitigation assessment also considered the Group’s ability to manage its cost base, raise new finance and the possibility of delaying capital programmes and/or restricting shareholder returns over the viability period if required.
The results of this stress testing showed that the Group would be able to remain viable and maintain liquidity over the assessment period. The lowest cash balance was in Scenario 6, in which the cash balance remains positive, whilst maintaining the regular dividend, and without use of the RCF facility which is available until June 2022.
Approximately 40–50% of the Group’s revenue is derived from Europe. The impact of Brexit continues to be considered by the Board, supported by the Brexit Steering Committee. There remains a wide range of potential outcomes, including, increasingly, that of a hard Brexit. No scenario has been run specifically for Brexit given the range of potential outcomes, which could be favourable (driven by a further devaluation of Sterling) or adverse (for example, tariffs or restrictions of raw material and finished product flows); however scenarios 2 and 4 above have an adaptation to potential Brexit outcomes. The Directors’ focus on Brexit is to ensure that the Group remains in the best position to maintain continuity of supply of raw materials and access for our products to key markets.
4. Viability statement
Based on the results of this analysis, the Directors have a reasonable expectation, predicated on the assumption that an unforeseen event outside of the Group’s control (for example, an event of nature or terror) does not inhibit the Company’s ability to manufacture for a sustained period, that the Group will be able to continue in operation and meet its liabilities as they fall due over the five-year period to September 2023.
Statement of corporate governance (extract)
Risk management and internal control procedures (extract)
Twice a year the Board reviews the principal risks, allowing it the opportunity to review the level of risk it is prepared to accept in pursuit of the Group’s strategic objectives. This has included continued focus on evolving issues, for example connected with Brexit, and understanding their potential impact on the Group in the conduct of its business. The Board considers that there remains a wide range of issues to be addressed before the Group can make an informed assessment on the potential impact of Brexit, but is nevertheless proactively making appropriate preparations for potential outcomes. Based on our assessment of the latest available information, the largest risk continues to be a sustained period when the Group may not be able to import certain raw materials or export finished goods through Customs, which could curtail sales if regional inventory levels were depleted. Contingency measures include Victrex securing additional warehousing for finished goods stock in mainland Europe and China, together with additional safety stocks in the UK. Stock levels in FY 2019 will therefore increase.
Victrex has assessed the potential financial impact of a ‘no deal’ Brexit. If our materials are unable to secure exemptions – as the only manufacturer of PEEK products in the EU – based on standard WTO tariffs, we estimate that cross-border duties, both for import of certain raw materials and export of finished goods, may add some additional costs in the first financial year following the UK’s exit from the EU. However, any weakening in Sterling following a ‘no deal’ Brexit, in line with the average of market assessments of approximately 10% lower rates than today, could provide a high degree of mitigation once the effect of existing hedging in place rolls off. Other potential opportunities also exist to mitigate such costs, although these would take some months to implement and may not be effective until the second year.