Dialight - turnaround story gathering momentum

Dialight is the global leader in industrial LED technology with over 2 million fixtures installed worldwide, providing one of the most efficient ways to drive down energy usage. The company is listed the LSE main market and has a market cap of £100m. Results for the FY to 31st December 2020 were released on 30th March.

We were delighted to welcome the Chair, David Blood, and CEO, Fariyal Khanbabi, to a webinar for private investors to introduce the company and talk about the improving prospects. A recording of the webinar is available here.

David Blood is the co-founder and Senior Partner at Generation Investment Management, who hold a 20% stake, as well as being the Chair of Dialight. He started the presentation by explaining they had been invested for 10 years and that there had been a number of challenges along the way. The decision to outsource manufacturing a few years ago was particularly painful as it impacted lead times and resulted in a drop in sales. The appointed of Fariyal, initially as interim CEO in August 2019 marked the turnaround, and she was appointed permanent CEO in March 2020 at the start of the pandemic. She has been instrumental in delivering the new strategy and has shown great leadership in a short period of time. David concluded his opening remarks by saying how excited he was about the prospects for the company now. They have best in class products, manufacturing has been rectified, they have a great innovation team who are introducing new products and LED lighting will play a key part in meeting global net zero targets which provides a significant tail wind to sales.

Fariyal started her part of the presentation by describing her main goal is to deliver significant growth. The strategy is based around three components of; growing in their core industrial markets; developing a sales team to expand reach and enable them to target larger orders similar to the successful work they did at Ford and thirdly, continuing to innovate to ensure their products remain best in class. Despite all the operational issues, Dialight is still regarded as having as best in class products. They are already working on the next generation of products which is focussed on the sustainability needs of customers and the goal here is to have the first fully recyclable product in the marketplace.

Looking further at the products, the company has been developing their technology for the past 50 years. They launched the first industrial “High Bay” LED light 10 years ago and the products last up to 5x longer than traditional legacy lighting. The evidence is in the 2m installed base which again is the largest installed base in the industrial segment. The products are successful because the improve safety, reduce energy costs and meet client needs for greater sustainability. Their products also have a 10-year warranty.

In terms of market penetration, the industrial market is still dominated by older technologies and LED’s currently account for less than 10% of the market giving ample growth opportunities. The catalyst for improved take up is substantial energy savings, lower maintenance costs and improved safety as the LED lighting is simply better. There is also an increased amount of regulation globally which is hastening the requirement for these products.

One of the differentiating factors about Dialight LEDs is the custom designed power supply which none of their competitors offer and this enables them to feel confident to offer the 10 year warranty on the products. Another factor is the better optics which enable better lighting and the ability of the products to withstand extreme environments. They will continue to innovate their products to ensure the product advantages are maintained.

In 2020 two new products were brought to market. A new Bulkhead was introduced into the mining sector and has uses in other sectors. A 60k High Bay was also introduced which was 30% lighter and 60% smaller and this was inspired by work they have been doing for Boeing and can be used in ceiling heights of over 100ft.

Dialight specifies lighting solutions directly to end users and uses distributors to fulfil demand. Sales are split between the larger capex sales for a whole plant or area and the smaller Maintenance/Repair operations (MRO) which tend to be ongoing in nature. During 2020, Covid had a significant impact on the Capex sales which dried up but the MRO sales had a considerable pick up. Some of the business previously lost when they outsourced was won back on the MRO side last year and this has continued into 2021.

Looking at their operations they incurred £6m of additional covid costs last year and in response to a latter questions, these are not expected to be repeated. There were disruptions to operations but their service levels have now returned and they are back to 80% on time delivery and lead times have been reduced to 3 weeks. The current factory capacity is sufficient to more than double sales without investing in additional kit.

The complex part of their business is the supply chain and Fariyal said managing this well was critical to getting lead times down. Last year this was a focus and they managed to reduce inventory levels by £13.5m by refining forecasting and improving local sourcing. They also worked with key suppliers to improve credit terms and implemented a controlled dual sourcing strategy.

Dialight is small company with a global impact and they take their ESG responsibilities seriously. There is a lot of focus on engagement with their workforce, improved communication, developing mental well being of the workforce and continued development of the workforce. As a direct response to Covid the company formed the Dialight Foundation to support the communities where they operate.

Not only is Dialight a company providing products that reduce carbon production, but they are also working on reducing their own carbon footprint. Their 2m installed base reduces CO2 production by 1m tonnes per annum which is the equivalent of removing 40,000 cars from the road each year. The internal goal is to be carbon neutral by 2040 and they hope to do better than this.

Following the presentation there were a number of questions answered by David and Fariyal

They have had a strong first quarter and they are seeing a pick up in the number of orders. Paper and packaging and food and beverage were described as booming while oil was weak. They are confident about sales for the year as they are seeing a pick up in capex orders and they have won back a number of orders on the MRO front and gaining market share.

The company also addressed the questions of what went wrong over the last few years. A previous CEO unfortunately had to leave the business for health reasons at short notice and this left a hole at the company which took some time to fill and this had an impact. During this time, they made a mistake by outsourcing manufacturing – this was very painful for the company and for customers. It was also made clear that bringing manufacturing back in house has been a success and has enabled them to offer their customers market beating lead times.

At the FY results they said they would return to profitability this year and they reiterated this with absolute confidence.

LED lighting is lowly penetrated in the industrial sector and the catalyst for change will be the additional focus on sustainability, reduced energy costs and reduced maintenance costs – this is making a difference.

Dialight have their own inhouse lighting designers and work with customers to plan the new lighting configuration. There is also an increased trend of intermediaries selling the concept of cost savings and are paid on the basis of the savings made by the company buying the lighting.

Dialight products are considered best in class and can command pricing premiums of 10-25%.

Looking at the capital allocation policy in the context of an improving balance sheet the policy is to drive towards financial flexibility which they are moving towards. This will enable the company to look at M&A opportunities and return cash to shareholders.

Not so long ago the company used to generate gross margins of 40% and management believe there is no reason why they cannot get back to those levels. Fariyal also mentioned that 85% of costs are fixed so as increased volume goes through the facilities, they expect to get great operating leverage.

Their main competitors are the LED arms of the large lighting manufacturers alongside some niche players in certain verticals.

Europe is small relative to the US and Australia but they are working on upgrading their sales effort to rectify this with an initial focus on UK, Benelux, France and Germany.

Customer order sizes vary enormously but could be between a few hundred thousand up to five million for the capex projects. The MRO customers are smaller at £5-100k month in month out.

A recording of the webinar is available here. If you would like further information on other webinars organised by Yellowstone Advisory, please contact info@yellowstoneadvisory.com