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26 October 2004
CHAIRMAN'S & CEO'S SPEECH
ANNUAL GENERAL MEETING
Chairman Don Bourke: Good morning ladies
and gentlemen and welcome to the 16th Annual General Meeting of
Orbital Engine Corporation Limited. My name is Don Bourke and I
will be chairing today’s meeting.
We have a quorum of shareholders present, so
I am pleased to declare the meeting open.
With me today are my fellow non-executive Directors,
Grahame Young and John Marshall, and Managing Director and Chief
Executive Officer, Peter Cook. Also present is Mr Keith Halliwell,
our Chief Financial Officer and Joint Company Secretary.
In addition, we have with us today Denise McComish,
representing our auditors, KPMG and Nigel Hunt representing our
legal advisers, Mallesons Stephen Jaques.
I will start proceedings this morning by giving
you a brief overview of Orbital’s year, followed by details
of the strategic direction of the Company. Peter Cook will then
follow up with a more detailed review of the 2004 financial year
highlights and results, after which we will conduct the formal business
of the meeting. We will then take questions from the floor.
The 2004 Year
Following on from the small profit recorded
in the second half of the 2003 year, I am pleased to report that
the Company has been able to achieve a profit of $3.4 million in
2004. This is a turnaround of $5.3 million from the full year loss
of $1.9 million in 2003.
By maintaining a focus on reducing costs and
increasing the utilisation in our powertrain engineering services
business, we have also been able to generate positive cash flow
of approximately $700,000 from our operations. Coupled with the
capital raisings undertaken towards the beginning of the 2004 financial
year, this allowed us to increase cash on hand by over $3m from
the end of the previous financial year.
This is a pleasing result, but there is still
work to be done to maintain the momentum and continue to deliver
improved results that will deliver increased value to the shareholders,
as reflected in our share price.
To this end, as foreshadowed at last year’s
AGM, a review of the Company’s strategic direction was carried
out during the year.
Strategy
Currently your company derives its revenue
from three main sources, namely
powertrain engineering services, licensing and royalties, and a
50% share of Synerject, our joint venture with Siemens VDO. Our
strategy review has highlighted that the focus on these areas should
be maintained and, where appropriate, strengthened.
The Company is acknowledged by both its customers
and the market generally as having considerable expertise in powertrain
engineering services. To capitalise on this, we have initiated a
more aggressive approach to marketing these skills, particularly
within the Asian region where we are not only cost-competitive but
operate in essentially the same time zone as the customer, thus
providing us with an advantage over our European and US competitors.
At the same time, our efforts to grow licensing
and royalty revenue will focus on niche markets, again concentrating
on the Asian region, where our technology has been recognised as
providing an affordable solution for reductions in 2-stroke vehicle
emissions. We are currently working
with Bajaj Auto Limited, one of India’s largest producers of
two and three wheelers, and which dominates the autorickshaw market
segment in Asia. Our arrangements with Bajaj will see Orbital’s
fuel injection technology applied to a significant volume of their
autorickshaw three wheeler vehicles, with production expected to
commence during late 2005.
Revenue generated from our powertrain engineering
service activities will be used, in part, to undertake specifically
targeted R&D to develop a second generation of products utilising
Orbital’s technology. This development is aimed at improving
performance and lowering unit cost to further enhance the commercialisation
opportunities for Orbital’s technology. Further work on the
adaptation of our technology for use with alternate fuels will also
be undertaken.
A significant contributor to Orbital’s
results is Synerject, which is a manufacturer of air injectors and
fuel rail assemblies and a fuel systems supplier to the non-automotive
market. Part of our ongoing strategy is to ensure the continued
growth of this business so that we have an acceptable supplier to
provide component parts that incorporate our technology as well
as create a business that will enhance Orbital shareholders equity.
In addition to organic growth of our existing
revenue streams, we will also consider, under very strict guidelines
and selection criteria, growth through acquisition of complementary
businesses.
It is disappointing that the turnaround in
the Company’s profitability has not been reflected in the Company’s
share price. One contributing factor may be the low shareholding
in the Company by institutional investors. Your directors have recognised
this issue and during the course of the last year we have spoken
to a number of institutions regarding investment in the Company.
The feedback we have received recently has been positive, particularly
in relation to the Company’s turnaround. Creating a track record
of sustainable growth and profit is likely to enhance our attractiveness
as an investment for these institutions.
Our strategy is designed to achieve this goal
and we will continue working towards our aim of restoring shareholder
value. The ultimate measure of our success will be achieving a higher
share price.
Thank you.
Peter Cook will now address you…
CEO Peter Cook: Good morning Ladies
and Gentlemen.
It is indeed a pleasure to be addressing you
on this now my third AGM at Orbital. We have made considerable progress
during that interval and I would like to take the next 15 minutes
or so reviewing that progress and providing you with a general update
on our future plans.
I believe I started last years address off
with the comment that the time between AGMs had passed remarkably
quickly, yet reflecting on the scale of the transformation of the
business and the effort that had been needed by the Board and management
for each of the individual, critical steps needed for that transformation,
it had been a long hard road. This year I believe shareholders can
see for the first time and without too much digging, the extent
of the transformation. Two years ago, Orbital had lost $26.8 million
(as it had in the previous year), this year we reported a profit
of $3.4 million; two years ago we used $13.6 million of cash in
our Operating activities and this year we generated $700,000 from
those same activities. These numbers are exactly as they appear,
a fundamental turnaround in the business.
I should also indicate that they are ahead
of plan.
We indicated last year that a cash break-even
result for the fiscal 2004 year was the likely outcome and a profit
of around $2.0 to $2.5 million dollars could be achieved in fiscal
2004. However, we had one or two not to be repeated items on our
side early in the year, which allowed us to exceed plan. Those items
cannot reasonably be expected to be repeated.
But let us take a look at the details of the financial results.
They will provide the starting point for the rest of my presentation
to you.
Financial Details
The major financial highlights were:
- profit after tax
of $3.4 million
- turnaround in profit year on year of $5.3
million
- cash generation from operations of $700,000.
- an increase in engineering revenue of 14%
to $11.5 million
- $2.8 million improvement in engineering
contribution
- reduction in overheads by 34% to $6.8 million
- a capital raising of $3.3 million in July
2003
- $2.7 million profit contribution from Synerject,
an increase of 100% reflecting the full year benefits of the restructuring
These results are most encouraging and
are the product of three years of implementation of our revised
strategy and refocus of the business.
Some areas did not go quite so well for us. In particular, Royalties
and Licences were down $700,000 or 18% year on year, principally
as a result of the downturn in the European 50cc scooter market
and the Personal Watercraft market, on which I will have some additional
comments a little later. As an offset, a new licence was entered
into with Bajaj of India, which probably represents our best royalty
growth prospects for a number of years.
I should also comment on system sales.
Those sales were of course transferred to Synerject late last financial
year and from which Orbital has benefited both by a significant
reduction in costs in the USA and also through an improved profit
contribution from Synerject.
These results demonstrate that we can
effectively run the business, in its current form, without having
to resort to shareholders' funds, deriving royalties from relatively
low volume, niche applications and complementing that with a profitable
and growing revenue stream from our powertrain engineering services.
With the success of F2004 in our minds
I would like to move on to the outlook for F2005.
Outlook for F 2005
The F2004 results are, by any measure,
a significant advance on where the business was heading three years
ago. In setting expectations for F 2005, we need to recognise that
the F 2004 result had a number of significant items in it which
contributed to profit, particularly in the first half, and that
will not be repeated. For example, foreign exchange gains from the
strengthening Australian dollar, ACIS credits and the write back
of unused warranty provisions. These contributed approximately $1.0
million to the better than planned performance.
Both the Chairman and I have had considerable
experience in turnarounds and by any measure, the program at Orbital
is a turnaround. During a turnaround, the important issue is that
there is a clearly defined strategy which will deliver the outcome
of improving shareholder value. It is not unusual that during the
process of implementation some issues will arise which cause short
term setbacks. If so, these matters need to be addressed promptly
to ensure that we deliver our agreed strategy.
I have already briefly alluded to the
complex issues surrounding the scooter market in Europe. We would
like to have seen Bajaj launch the autorickshaw in India earlier,
to be available to compensate for that set back in royalty revenue.
However, it will be F2006 before we see their royalties commence.
Whilst we have had a solid growth in powertrain engineering orders
over a two year period now, we have also recently seen an unusual
timing in the flow of orders against plan. The combination of soft
royalties and the delay in orders in engineering will, unfortunately,
drive us into a loss in the first half of this fiscal year. That
is the extent of the bad news, we've had a good part of the cycle
for most of F2004 and unfortunately, now a slight set back.
However, by improving our sales processes and increasing our overall
corporate focus on sales over the last six months, we have improved
our orders to the extent that, at the end of the first quarter we
have over $4.0 million in forward orders. That puts us on track
with our strategy for an aggressive growth in orders for the full
year.
As the Chairman has indicated, your business
now consists of three related but independent profit centres.
- Powertrain Engineering Services,
- Royalties and Licensing from the IP
and know how in OCP, and
- Our share of the profit from Synerject,
our JV parts and systems supplier.
I would now like to review each of those
sectors in a little further detail and provide you with some insight
into the business highlights from each, during the year.
Powertrain Engineering Services
Engineering showed good progress in fiscal
2004. Revenue increased 14% to $11.5 million but more importantly,
the contribution or gross profit from this section of our business
increased by $2.8 million from a $700,000 loss the year before.
This recognises the improvement in productivity in the business
unit with a 14% greater throughput with a 12.8% decrease in direct
costs.
This business unit sells our professional powertrain engineering
skills to engine makers around the world. It represents the most
immediate profit opportunity as it has the ability to provide significant
growth without needing an excessive increase in overheads. The whole
process of selling these services and delivering them on time and
within cost is a relatively new discipline for Orbital.
The global market for these services
is estimated at over $1.0 billion and has only a relatively small
number of competitors. Whilst the market is predominantly in Europe
and to a lesser extent in the USA, the growth is occurring in Asia
where we are of course, in the right time zone and have one of the
few facilities available in the region.
In addition to the steps I've just outlined
on sales and project delivery, it was important that we strengthened
our balance sheet to assure clients who were planning long term,
complex engineering programs with us, that we had not only the technical
competence, but also the commercial strength for these assignments.
This whole process has all been directed at building a credible
track record and proof of competence, established through assignments
well delivered. A reputation for excellence is something that has
to be earned and there are no short cuts.
I previously indicated that our order
book is greater than $4.0 million and I should point out that large
orders usually take longer than one financial year to deliver in
full.
We have achieved a number of multi-million
dollar programs with major OEMs during the recent period and we
are working at building upon those successes during the rest of
the year. We remain very positive on the growth prospects of this
business.
Let me now move on to discuss the performance
of our licences and royalties area.
Licenses and Royalties
There is a tendency to view this business
unit as a single entity, homogeneous and therefore easily summarised.
In fact, it represents all of the licence and royalty income we
receive in any one year from all sources. It therefore covers quite
a mixture of customers who in turn have quite unrelated product
and market events influencing these figures. It is important to
understand why it varies from time to time and why we are encouraged
by our forward prospects.
Our major licensees are in the marine
sector Mercury and Tohatsu; in the motorscooter sector Aprilia,
Peuguot and Piaggio; (all European manufacturers) and Kymco (Taiwan);
in the personal watercraft sector, Bombardier Recreational Products
(BRP); and in the autorickshaw sector, Bajaj. In addition we have
a licence agreement with UCAL in India, for the manufacture of certain
components used in our unique combustion technology.
Each of these markets is obviously different
and therefore needs to be independently understood. I should also
point out that after OCP is licensed to a licensee, we have very
little influence over much of what they do, for example, the models
that a manufacturer uses OCP on, the marketing strategies that they
deploy, the pricing, other features and benefits that are incorporated
on any given model. We are not necessarily advised of launch dates
or model upgrades in advance and therefore we have limited ability
to be able to forecast events for our own shareholders.
Let's take a look at the respective segments
in turn, which will allow you to form a view of our overall prospects.
Motorscooters
The European based manufacturers have
seen their domestic costs escalating against Asian imports and a
declining market segment. As well as we can determine, the 50 cc
scooter market has halved over the last four years. The impact on
all manufacturers, including those from Asia has been profound.
For example, it resulted in Aprilia seeking special arrangements
with the Italian banks to allow restricted production to continue
while a longer term survival strategy was formulated. Recently Aprilia
was acquired by Piaggio, its key Italian competitor and no clear
strategy has yet emerged for the newly integrated business.
This environment for our customers has
not been conducive to new model launches or aggressive marketing
strategies although they believe they have now seen through the
worst of the problems. We are aware of the recent launch of the
new Aprilia SR 50 and that new models are imminent from a number
of other licensees, including the Taiwanese manufacturer Kymco,
who are well advanced with their 100cc scooter, for launch in early
2005. However these new model launches must be taken within the
context of a difficult retail scooter market. Kymco's planned launch
will, of course, be our first Asian producer with the possibility
of both Asian and European sales, so we are encouraged by this potential
new royalty income stream and broadening market base for our technology.
Personal Watercraft
As we advised last year, personal water
craft appear to have been an expensive item in a fad market. Volumes
peaked quickly and have declined equally quickly, although the market
now seems to be maturing with a mix of models and price points reflecting
some emerging stability. There are a limited number of manufacturers
in this sector and their recent strategy has been to increase prices
aggressively, potentially aggravating the declining volume. Our
royalties have correspondingly declined, although with the market
now settled at around 100,000 units annually, we believe there will
be a limited volume of craft re-introduced in the high performance/value
sector of the market, the sector we occupy.
This should produce a small but improved
position for Orbital in future years compared to the recent past.
Outboards
Our major licensee is Mercury. Mercury
appears to have continued to have held its market position, particularly
in the US market and has taken an aggressive antidumping legal action
against Japanese imports, notably Yamaha and Honda, to secure its
market position. Mercury have also continued this year with their
rollout of the 3 cylinder versions of Optimax, their direct injection
2 stroke brand which utilises our technology and against which they
have provided very positive forecasts to Orbital, of increasing
volume. It should be remembered that Mercury have not of course,
deployed our technology exclusively and offer engines in almost
all feasible configurations including carburetted, conventional
Electronic Fuel Injected, as well as Optimax systems and four stroke
PI and supercharged engines. Mercury's strategy is to offer all
of these options to the market at a variety of price points and
have the consumer choose.
We have seen our royalties stream improve
from Mercury during the year and we are therefore encouraged by
the wider offering of Optimax in the market.
A number of shareholders are always interested in the perceived
advance of 4 stroke engines in the outboard market. At this stage,
both 2 stroke and 4 strokes have their advocates and their devotees,
but it is clear that four stokes have difficulty
- the power to weight performance,
- the price or cost comparability or
- the major services' cost
advantages of their two stroke equivalents.
These factors seem to be setting a limit to their ultimate market
share.
Autorickshaws
Our most significant new licensee during
the year was Bajaj. They are the major manufacturer of the ubiquitous
three wheel commercial vehicles widely used in India, South East
Asia and North Africa. Bajaj have indicated their intention to launch
an OCP version of this vehicle in late calendar 2005. Last year
I indicated that we provided a manufacturing license to the Indian
components manufacturer UCAL, an essential precursor to any OEM
model launch, because of the relatively high level of import tariffs
on components in India. UCAL's commitment to the roll out process
of our technology has played a significant part in securing the
arrangements with Bajaj.
Bajaj are now actively working on the
pre-production engineering aspects of the introduction and progress
has been very satisfactory. We are providing Bajaj with the benefit
of our experience on a number of non-engineering issues learnt from
the introduction of DI scooters in Europe, thus taking advantage
of the lessons learnt there.
This progress with Bajaj will not impact
our F 2005 results because of the leadtime for model introduction,
both production and commercial. However, with model introduction
currently planned for December 2005, we are expecting the Bajaj
launch to have a positive result on our F2006 year. We expect Bajaj
to evolve into a key licensee, given their competence, their forecasted
growth in the market and Bajaj's satisfaction with the performance
of prototypes. This is essential to our plans, given the softness
we are experiencing in other licensee markets, particularly the
European scooter market.
Automotive
Always an area of considerable interest
to any one following our Company is progress in the automotive sector.
All activity to date by the automotive OEMs has been to keep themselves
abreast of OCP's potential including its features and benefits and
likely costs. We are aware of most of the results of that work and
in aggregate, we know that it supports our claims for OCP, specifically,
that it improves fuel economy by 12% to 18% and that the improved
combustion efficiency reduces the amount of expensive precious metal
catalysts needed in the exhaust system. At current prices on say
a 2 litre engine, the typical reduction achievable is around $200.
There are a couple of points that I want
to highlight about this process of on-going evaluation by OEMs of
Orbital's technology
- Most OEMs evaluate, re-evaluate and return
to re-evaluate again and again as part of their advanced engineering
programs or R & D activities. Whilst they are undertaking
these programs, Orbital is usually retained on a fees basis and
the process contributes to our powertrain engineering revenue
and profits. It has been this class of interest that we have reported
in the past and I'd suggest that it has been, wishfully perhaps,
interpreted by shareholders, the press and maybe some analysts
that these are commitments to production. They are not. They are
in the same category as "concept cars", for those of
you who follow motor shows which flag areas of interest to the
OEM, but they are not commitments to production.
- The basic technology of OCP is proven and
is well defined. Whilst its application on a given engine or for
a given use may need to be confirmed and require evaluation or
adaption by an OEM, the basic engineering and likely performance
profile is known. If it wasn't, we couldn't have protected our
IP and we couldn't have filed patents and it couldn't have been
on Mercury's Optimax engines since 1996. The engineering is therefore,
at least for this stage of OCP's adoption, complete. It is not
therefore the lack of engineering understanding of OCP that is
blocking its adoption by OEMs in the automotive sector.
Experience in all of our other markets
indicates that the key to adoption is regulation, either for emissions
or for fuel economy.
Whilst there is some community support
or interest and lobbying is occurring, it is very limited and restricted
to specific interest groups. However, there is not wide spread social
or political support. I can quote many examples, from the Kyoto
protocols, to lack of revision of Corporate Average Fuel Economy
(CAFÉ) standards in the USA, to consumers' purchases of SUVs
and 4 wheel drives in preference to more fuel efficient sedans to
the extent that these now represent over 25% of the western world's
new car sales.
For the last 10 years we have seen that
OEMs will not seek to increase the cost of their product offering
for benefits we as consumers will not pay for, without legislative
action, whatever the merits. In that sense we are in much the same
category as safety features, like seat belts or side intrusion crash
bars.
Clearly, however, with oil now at US$50+
per barrel and with less being discovered than consumed, with climate
change from green house gas production becoming easily recognised
by us all, the pressure for change should be increasing.
Our technology remains the best there
is. It is the gold standard to which other contenders still attempt
to aspire. Our patents still have considerable life and all of our
"blue sky" is still all there.
Briefly, I would like to cover the third
area of our business, Synerject.
Synerject
Last year we announced the restructuring
of Synerject, including its re-financing until September 2006 and
the transfer or Orbital's Marine and Recreation Systems business
and Siemens VDO's non-automotive systems business into Synerject.
The benefits of these changes have been manifest with the excellent
results that I have already referenced earlier, with a profit contribution
of $2.7 million to Orbital, from a business now turning over US$43
million. Our ownership remains at 50%.
Synerject not only manufactures and supplies
the unique components associated with OCP, but also is the only
supplier of Siemens-VDO's EFI fuel systems and components to the
non-automotive sector. As the non-automotive market moves progressively
to EFI from carburetted, there is a significant market opportunity
available to Synerject. The other suppliers to this market, including
Bosch and Delphi, are typically high volume automotive suppliers
and not well equipped to handle the low volume, reduced specification
components required for this market. Synerject has been specifically
set up to service this market and has access to the high volume/low
cost automotive parts from Siemens-VDO to adapt to its customer's
applications. Accordingly, we remain very positive on the near term
opportunities for Synerject.
It has been profitable and cash generating
now for over 2 years and is progressively reducing its debt to plan.
At the moment net debt stands at US$13 million, recognising repayments
to date and the current cash position of Synerject.
In addition to the profit generated by
Synerject, a valuable asset is being built through our ownership.
That asset seems to be infrequently considered in the valuation
of Orbital's business.
Future Objectives
The primary aim is to continue to increase
the growth of the powertrain engineering services, improving its
efficiency and its utilisation of our facilities. The focus of that
growth will be within the Asia Pacific region and our targets are
quite aggressive.
Whist we would like to see improvements
in licenses and royalties during F2005, it has to be recognised
that both the European scooter and PWC markets are in difficult
circumstances. We have a new licensee in Bajaj who has considerable
potential to generate sizable royalties for us over time, although
these will not start until December 2005, that is during our 2006
fiscal year.
There are risks with our targets. Sales
for our powertrain services are dependent on a robust, global automotive
sector. As we build and enhance our reputation in this sector, orders
should prove easier to secure.
Exchange rates can have a significant effect on our results. Whilst
we have strategies in place to minimise the impact of them from
our trading results, the Australian dollar's translation rate, can
have a significant impact on our overall result.
In summary, we have made considerable
progress in F2004 and have created a strong platform on which to
continue to build the company's value. Thank you.
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