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25 August 2004
OPEN BRIEFING
CEO on Continuing Profits
corporatefile.com.au
Orbital Engine Corporation Limited yesterday
reported net profit of $3.4 million for the year ended June 2004
compared with a loss of $1.9 million in the previous year. The six-month
period to June was the third consecutive half-year in which Orbital
has booked positive earnings. What level of confidence do you have
that you can sustain the profitability of the business?
CEO Peter Cook
We've restructured the business to provide
three related but independent income streams: power train engineering
services, licences and royalties, and our share of earnings from
Synerject, our 50:50 joint venture with Siemens VDO Automotive.
Each of these contributed to our very strong results in 2004.
In restructuring and reducing our reliance
solely on intellectual property as our model, we've stabilised the
business and given it a more sustainable basis. Whilst each sector
will be subject from time to time to its own over or under performance
against our expectations, we believe we can sustain profitability.
corporatefile.com.au
An outstanding feature of the result was that
Orbital generated positive cash flow from operations of $0.7 million
for the year, with $1.0 million generated in the second half. Is
this sustainable going forward?
CEO Peter Cook
We were particularly pleased with the cash-flow
result. It represented a $7.6 million turnaround year on year. We've
indicated in the past that turnover of around $10 million in Engineering
Services is the point at which we're cash neutral, and we believe
2005 will demonstrate our ability to continue to generate cash from
underlying trading.
corporatefile.com.au
What's the outlook for earnings and cash flow
in the current year ending June 2005?
CEO Peter Cook
In 2004, the underlying result was very good.
We had the full benefit of most of our earlier cost reduction initiatives,
except for the head office relocation, which occurred half way through
the year. But, we must acknowledge that there were some one-off
contributions, particularly in the first half, with foreign exchange
gains, Automotive Competitiveness and Investment Scheme (ACIS) credits
and certain warranty expiries that won't be easily replicated. Therefore,
I see 2005 as a year of consolidation and one in which we'll take
advantage of our lower cost base to grow. Hopefully the growth will
compensate for the absence of those one-offs.
corporatefile.com.au
Cash on hand totalled $12.4 million at the
end of June 2004. What level of cash will you seek to maintain going
forward?
CEO Peter Cook
We'd previously indicated that our immediate
plans were to use the cash to strengthen the balance sheet and that's
exactly what we've done. As the market accepts the sustainability
of our turnaround, we may look to deploy some of those funds on
co-development programs or an appropriate acquisition, under very
strict board guidelines.
corporatefile.com.au
Synerject made a $2.7 million contribution
to earnings, up from $1.4 million in the previous year. In the second
half of the year, the JV's contribution was $1.8 million, double
that of the first half. What were the drivers of Synerject's growth
and is this momentum sustainable?
CEO Peter Cook
Synerject's restructuring was put in place
very late in the 2003 financial year, and we indicated at that time
it would have a very strong year in 2004. It's achieved a turnover
in excess of US$40 million and has considerably improved EBIT to
US$4.3 million. The variation between Synerject's first-half and
second-half EBIT result was in part a product mix issue and in part
a currency issue.
The key driver of organic growth in Synerject
is the increasing use of engine management systems in the non-automotive
market as carburettor products are replaced by electronics. The
non-automotive market lags the automotive market in the uptake of
electronic management engine systems.
corporatefile.com.au
Can you quantify the impact of the weaker US
dollar on Synerject's earnings in 2004? How's it positioned at current
US dollar levels?
CEO Peter Cook
Over the full year, the impact of the stronger
Australian dollar was to depress Synerject's contribution to our
result by about A$586,000 compared with where it would have been
at the 2003 exchange rate. In US dollars, our 50 percent share of
Synerject's 2004 EBIT result showed a 136 percent increase year
on year.
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What's the earnings outlook for Synerject in
2005?
CEO Peter Cook
We see 2005 as a year of consolidation for
Synerject. Certainly there'll be some areas of good growth and some
areas that will under perform, however Synerject does continue to
win new programs, which should see improved growth and turnover
in the medium term. Additionally, there'll be some investment in
new generation Electronic Control Unit (ECU) development to make
certain Synerject remains at the forefront as a supplier.
corporatefile.com.au
Orbital's Engineering Services business booked
EBIT of $2.1 million in 2004 compared with a loss of $0.7 million
in the previous year. Revenue rose 14 percent to $11.5 million.
Both revenue and EBIT were lower in the second half of the year
than in the first half. What was the reason for the slower revenue
in the second half and can Engineering Services remain profitable
at lower revenue levels?
CEO Peter Cook
The growth in revenue from engineering power
train services has been most encouraging. Even more encouraging
was the improved EBIT contribution, which was up $2.8 million year
on year. Certainly the second half was a little softer than we would've
liked, but not significantly. We expect some volatility over the
year in terms of throughput because of project phasing, project
timing and resource availability.
corporatefile.com.au
What's the current trend in work flow within
the Engineering Services business and what's the outlook for 2005?
CEO Peter Cook
We've demonstrated over the past two years
that we can generate Engineering Services work in the range of $10
million to $12 million. It's premature to ask what the outlook for
2005 is since, like many fee for service businesses, three months
is the maximum forward order load you could ever expect to have
to hand. Any longer would imply our clients are waiting too long
for their programs. We have a strong prospects list and the past
year's results suggest we should be able to achieve our goals.
corporatefile.com.au
Orbital's revenue from Royalties and Licences
was $3.2 million in 2004, down 18 percent. What's the outlook for
2005?
CEO Peter Cook
Licence and royalty revenue has a complex set
of drivers, making it difficult to get the sub-parts accurate even
though the overall number is reasonably stable. The 18 percent year-on-year
decline was a bit disappointing, but attributable to two factors.
Nearly half of it was due to currency and the remainder due to the
poor volume off-take of 50 cc scooters in the European market.
We'd indicated earlier in the year that the
European scooter sector was under performing and that there's considerable
pressure on all three European manufacturers we licence. Indeed
Aprilia, our first scooter licensee, suspended manufacturing during
the year while it reached accommodation with its banks. However,
other markets have grown significantly, including the outboard sector
at Mercury, hence my comment that it's difficult to predict the
sub-components in this area, but relatively easy to get the headline
number correct.
corporatefile.com.au
What would you see as a "normal"
level of annual revenue from Royalties and Licences going forward?
CEO Peter Cook
In the near term, we'd expect licences and
royalties to be in the vicinity of $3 million a year. We do expect
that figure to increase when the volume from Bajaj Auto, our Indian
licensee, comes online in late calendar 2005, but we'll advise the
market a little closer to the proposed launch. Our expectation is
that Bajaj will become a major royalty contributor.
corporatefile.com.au
Oil prices are close to record levels at nearly
US$50 per barrel. Can you comment on the potential impact on demand
for Orbital Combustion Process (OCP) technology in a scenario where
these levels are sustained?
CEO Peter Cook
Sustained high oil prices must ultimately be
advantageous for us. OCP improves fuel consumption by 12 to 18 percent,
depending on the measurement standard and base comparator, a significant
saving. However, it'd be wrong to think there'll be any instant
conversion to our technology. When similar fuel price escalations
have occurred in the past, quickly available short-term adjustments
are first to be seen. For example, around the time of the first
oil shock, Holden abandoned the Kingswood and moved to the Commodore,
a smaller compact sedan, and introduced four cylinders into the
Australian sedan range for the first time. It's only after these
types of short-term adjustments have occurred that we'd expect to
see the design and introduction of more fuel-efficient engines.
It's at that stage we'd expect the merits of our technology to be
more fully recognised.
I should also add that consumers will need
to get used to either paying higher prices for fuel, or paying higher
prices for more fuel-efficient engines. To date, the consumer hasn't
been prepared to pay for those engines and that's been the major
block to our prospects.
corporatefile.com.au
Now that Orbital has established a profitable
base, what's your strategy to take the business forward?
CEO Peter Cook
The Chairman announced at last year's AGM that
we'd be undertaking a review of our strategy during the year, given
we'd met our objectives for profit and cash neutrality well ahead
of plan. Importantly the strategy that's worked to date will be
enhanced, not radically altered. We'll focus on growth in Engineering
Services, principally in the Asia Pacific region. We'll seek additional
licensees with niche-market applications for OCP and of course we'll
continue to improve the value being built in Synerject. Additionally,
we'll increase our work on second-generation OCP systems focussed
on cost reduction and in-service improvement for our existing customers,
and we'll consider acquisitions within very specific guidelines.
corporatefile.com.au
Can you provide an update on developments in
relation to OCP for automotive applications?
CEO Peter Cook
Last year we indicated we had active engineering
programs with three OEMs exploring various aspects of OCP on their
engines. OEMs continually update their level of understanding of
a wide variety of technologies and these programs shouldn't be seen
as any commitment to pre-production interest or model introduction.
However, we were satisfied with the technical performance and outcomes
of each of the programs and although the immediate work's all but
concluded, we feel the basis for further interest has been established.
We remain optimistic that OCP has much to offer
in automotive applications. Perhaps declining global oil reserves
and increasing oil prices, coupled with global warming, will see
a more aggressive commitment from OEMs to introduce promising technologies,
particularly where government assistance is offered such as the
Australian Government's recently announced $150 million extension
to the ACIS R&D grant scheme.
corporatefile.com.au
Thank you Peter.
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