Surface Transforms plc (LON:SCE) is the topic of conversation when Hardman & Co’s Analyst Mike Foster caught up with DirectorsTalk for an exclusive interview.
Q1: What have been the recent developments at Surface Transforms?
A1: The company has been ramping up production to fulfil its multi-year order book and, unfortunately, the production difficulties of 2022 and 2023 were not fully resolved until June this year.
Surface Transforms manufactures carbon ceramic brake discs, one of only two companies to do so in the world. This resulted in cashflow shortfalls, resolved by equity issuance. There is a large capital expenditure programme well under way, currently funded by debt.
Q2: It sounds like a big opportunity and a difficult path to fulfilment, is that the case?
A2: The product is in great global demand with major car markers; hence a multi-year £390m order book, with a market capitalisation of about 6% of that number.
Gross margins remain in the 55%-60% range and there is only one competitor across the world. The sales delivery doubled in 2022 and rose 80% last year, with a 140% increase estimated this year, 55% next.
Barriers to entry are very high, the product being very difficult to develop, the customers needed extended test periods in such a safety-critical product. This has all been achieved.
Q3: Is it right to say this is a young company in an early emergence phase?
A3: The order book from mega global manufacturers shows the industry is prepared to put the delivery of future models in Surface Transforms’ hands. The challenge is expanding production line output ‒ there have been single-points of failure and difficulties with the furnace, the heart of the carbonisation process.
The July update confirmed trouble-free production for the previous month and that all major processes, very importantly, now have at least two sets of equipment, thus eliminating single-point failure risk.
Q4: How are the financial and operational numbers doing?
A4: The July update led us to downgrade our numbers. We had anticipated a small EBITDA loss this year and now we estimate a loss of £6.8m at the EBITDA level. Our estimates are for a £1.1m EBITDA profit in 2025. In both years, debt rises, but 2025 sees operating cash inflow, the debt rise being due to the capital expenditure. In effect, all hinges on product delivery as the multi-year order book is robust.
Manufacturing yield is rising, expected to reach 83% in the current half-year, rising further in 2025. Development costs have been high, one aspect of the production difficulties. Staffing is at 170, up from 70 at the start of 2023.
End-2024, we estimate net debt of £4.7m, with gross cash of £3.0m. The debt relates to the capital expenditure. We estimate a moderate rise in gross cash in 2025, a direct function of the operational cashflow, which we estimate to turn positive in 2025.
So, there have been setbacks financial and operational but this now appears on a rising curve
Q5: What is the next update?
A5: Interim results to end-June are due to be published later this month.
