Summary

We travelled to Denmark on 26-27 September 2022 to meet with five Danish companies, including existing long recommendation DSV (Buy) and existing Short recommendations Vestas and Ambu. 

We also met with two other companies – Rockwool and Demant (both No Current Recommendation – NCR). All of these companies have seen significant share price declines this year of -40-60%, except for Vestas (-25%).

• Ambu is in the middle of management change and reset. We recently dropped the Short. 
• DSV is acutely aware of declining freight rates and volumes. We have a Buy but investors need to endure a large earnings reset. 
• Vestas is seeing short-term pain, hoping for long-term industry improvement. We maintain the Short.  
• Rockwool is seeing strong underlying demand for insulation, but energy headwinds are significant. No recommendation. 
• Demant is well placed for structural growth in hearing aids, however, fear of hearing aid commoditisation remains. No recommendation. 

We highlight details for each company below. 

Demant

• Demant is one of the leading businesses in the treatment of hearing loss, and the shares have declined ~40% so far this calendar year. The stock is priced at ~2.6x FY’23 consensus sales and ~15x consensus net income, with operating margins at ~19%. 
• The company claims to be a med-tech company, whereas they see analysts classifying the company as a consumer discretionary business.
• Getting a hearing aid is an unwanted task for an individual and the stigma attached to hearing aids (people who have them are perceived as old) means that people put off getting one as long as possible. When they do get one the aid needs to be as small and discreet as possible.
• Hearing loss tends to be more pronounced at certain frequencies, as well as being poor overall. These intricacies mean that testing is best done by an audiologist, with the hearing aid then adjusted to fit the individual customer. 
• Hearing Care is 41% of company revenues, with Hearing Aids being 39%, noting that Hearing Aids is at a substantially higher EBIT margin. 
• The US market will allow OTC hearing aids from 16 October 2022. Previously, it required authorisation from an audiologist, but this is set to change. Demant does not expect much long-term impact from the change given the need for an audiologist and that people generally go for the aid recommended by an audiologist.
• Cheaper alternative products to Demant’s hearing aids are already on the market. Costco (NCR) offers a pair for $1,399 including fitting (Kirkland branded). Some OTC companies online are offering them at $799-999 per pair but with no consultation or fitting. Meanwhile, at a standard hearing aid clinic, a pair of premium hearing aids are ~$7-8k with cheaper ones being $4-6k. 
• Marketing costs in the hearing aids business are very large, with Demant quoting $300 as the average marketing spend to get just one person to come into a store – and, of course, not all of those go on to buy the product. Return rates are also high at ~20%. It remains unclear if the online OTC operators will be able to manage these marketing and return processing costs. 
• Price elasticity is apparently low, similar to eye-care businesses – because customers want the best devices and do not want to have to spend a lot of time shopping around and testing lots of different products. This is a product that people do not even want to buy in the first place.  
• 20% of hearing aids sold by Demant are through its Hearing Care business. Demant is aiming for further vertical integration, with acquisitions likely of more Hearing Care businesses through which they can charge 4-5x versus a wholesale customer. 
• The hearing aid market is highly consolidated, and dominated by five companies (WSA, Sonova, Demant, GN Store Nord and Staki – all NCR). Newer OTC products still have tiny market share in comparison. 
• For Hearing Care, Amplifon (NCR) is the market leader with 10% global share and is considered the best-in-class operator. Demant has 3% along with Sonova and WSA. The remaining 80% of the market is highly fragmented, with many audiologists working in their own clinics. 
• Whereas Demant is targeting growth through vertical integration, GN Store Nord is instead attempting to grow in the OTC market using a different brand from its core product. They have also been aiming for volume growth and have suffered price erosion from large customer Amplifon (GN Store Nord margins have shrunk in recent years as Amplifon’s have grown). 
• Demant has embarked on some questionable business strategies in the last 10 years beyond its core Hearing Care and Hearing Aid businesses. They attempted to compete in hearing implants but could not build a large enough market position against dominant incumbent Cochlear (which has 60% market share – NCR), so the business has been disposed of. Then there is the Communications business, now fully owned after buying out JV partner Sennheiser, but which is loss making after the company had built an opex base that was not offset by sufficient revenues in 2021 and early 2022.     
• Share prices of the companies in the sector have fallen in 2022 following a profit warning from Sonova after only four months in the year had passed. Meanwhile, Demant has not seen any slowdown in demand and doesn’t understand why Sonova is performing more poorly. 
• Overall, it is unclear if the business is under huge structural threat from lower cost OTC products or if, instead, the shares should be considered as a med-tech business. 

Rockwool

• Rockwool shares have halved this year and the company is now valued at 0.8x consensus FY’23 sales and PE of 10.6x. We are interested in the shares in light of the big increase in energy costs, particularly in Europe, which we believe makes installing insulation a more attractive proposition for both residential and commercial properties. At the same time, we worry about their exposure to construction volumes, in light of the expected global recession, plus the energy costs needed to produce the insulation.
• The company produces insulation and related products from stone wool – which has unique properties of being a good insulator, resistant to fire and being fully recyclable. 75% of the business revenues come from the Insulation segment and the remaining 25% from Systems. 
• The stone wool insulation is one of three main types of insulation. Foam insulation is made from plastic and is cheaper plus a better insulator to heat but is flammable, non-recyclable, and produced from a fossil fuel. Alternatively, there is glass wool insulation, which is more flexible and often cheaper than stone wool but is a weaker insulator and also cannot be recycled. 
• Rockwool is dominant in European stone wool insulation with ~50% market share in Europe (4x bigger than No.2 Paroc). Note that if any rival opens a new factory, then Rockwool does the same in order to maintain market share. 
• There are 51 manufacturing facilities globally. Insulation is a bulky product to transport, therefore Rockwool does not move it more than 500km from the factory. This means that there is a significant barrier for rivals to scale their businesses across a continent, which we believe gives Rockwool an element of pricing power, particularly with large customers that are doing orders in several different countries. 
• Revenues are 50% from commercial and 50% from residential uses, with another 50% split between new build and refurbishment. 25% of revenues are from residential refurbishments. 
• The business is capital intensive due to the need for multiple manufacturing facilities, with annual capex guided at ~13-14% of sales. ROCE is good at ~20%. 
• Margins in both the Insulation and Systems segments are in double digits. Within the cost base, 50% relates to energy and raw materials, 25% to staff and 25% to packing/distribution.
• Energy price increases have been a significant headwind for Rockwool, with the cost gap relative to foam insulation having increased during 2022. Nonetheless, price increases have been implemented in the insulation division, helped by the benefit of rising energy prices – namely the increased savings that can now be achieved by installing appropriate insulation. 
• The company has limited revenue visibility. The vast majority of insulation products are sold to building material distributors, which generally order on a short-term basis.
• ~10% of Rockwool employees are based in Russia. So far, the company has decided to continue operations there although they did cancel planned €200m expansion capex in the country.
• Overall, Rockwool appears to be a solid business with minimal debt that can benefit from both ESG concerns and high energy prices, which increase the attractiveness of their insulation products. However, recessionary impacts on new build business (~50% of revenue) provide a short term headwind. 

Ambu

• We drop the Short after six years of coverage. 
• The launch of a gastroscope is the new hope for the company, along with the new aScope5 and continued growth in ENT, and cystoscopy. The Duodenoscope seems like a write-off. 
• The Balance sheet is tight, we expect ND/EBITDA to reach 3.8x at year-end, and cash-flow is negative. A balance sheet reset may be needed. Note that the company does not disclose its debt covenant. 
• Estimates still look too high for FY’22, and there is risk of further downgrades at the next company update in November. At that update, we expect new management to set out further aspects of any strategy changes, although at this stage, the company does not expect this to involve any further announcements of staff lay-offs. 
• New management have acknowledged the excessive growth plans and optimism of the previous CEO and are attempting to rebuild credibility with realistic timelines for launch of new products. Sales teams have, in the past, been built up too quickly resulting in falling profits as revenues failed to match expectations. We expect management to take a much more conservative approach to growth moving forward. 
• Easing freight rates, cost cuts, and the ramp of the new factory in Mexico may alleviate margin headwinds. This is the reason for us dropping the stock despite it still being expensive on 3.5x sales and ~36x PE (FY’24e). 

Vestas

• We maintain the Short and see estimate risk in the coming quarters on profitability and cash flows. 
• Insufficient order intake in FY’22e may mean FY’23e revenue estimates are too high. Investors hope for a bump in orders on US legislation, but this will take time to feed into orders/prepayments, and may be a FY’24e revenue event. 
• Strong discipline is being exhibited by the company, demanding high prices and strong commercial terms on new orders, which means a lack of orders in the short-term. Vestas expects to restore its own profitability through discipline and as market leader, force competitors to improve strategic discipline, resulting in an overall improvement in industry returns. 
• We are increasingly concerned about contract assets and contract costs building up in the balance sheet. Vestas has avoided recognising cash costs through capitalisations and will face margin headwinds when these translate into expenses on project delivery. 
• The stock has come off a little but has outperformed markets this year because of positive thematic news-flow and ESG tailwinds, which should drive booming order books in the medium-term. However, we believe the margins on these new orders will be low and therefore the company will miss numbers.   
• We still see Vestas as overvalued given the margin performance and potential for the business. It is a low-margin industrial, with a volatile and levered earnings profile. The balance sheet is increasingly being stretched by short-term negative cash-flows. 
• We maintain our price target at DKK 100.

DSV

• We maintain the Buy on DSV because we see it as a high-quality business that can navigate through recessions and emerge stronger with higher long-term earnings power. 
• It will be hard to pick the bottom in large cap quality stocks and we acknowledge being early into the idea given likelihood of earnings downgrades. 
• Volumes are down 5% in recent weeks, mainly driven by falling Asia-Europe trade. Note that intra-Asia and intra-Europe trade remains strong. 
• Freight ocean rates are down 55% from the peak. DSV believes they will not revert to historic levels due to structurally higher costs in the container industry. 
• Earnings are going to normalise aggressively, meaning the 12x PE on the stock (FY’22e) is illusory. However, even on lower estimates, we believe DSV is now good value, something we discussed in prior notes. 
• The market remains highly fragmented, with DSV only having 4% market share. 
• For now, the company will buy back shares and has shown strong capital allocation and value creation on M&A historically – they remain on the lookout for medium sized companies with a compelling strategic fit. DSV has a global digital IT system that makes integration of new acquisitions and stripping out of dual costs easier. 
• The CFO dismissed the idea of a deal for CH Robinson (NCR) as there is no strategic fit. 
• Recent press reports suggest Schenker will be sold by Deutsche Bahn, with a final decision imminent. DSV will be obliged to look at the opportunity from an M&A perspective, which would be material, although they are conscious of the risk of buying large assets at peak earnings. 

DSV note that Maersk (NCR) has been vocal about moving into freight forwarding and working with customers directly. However, DSV is now seeing customers want to use DSV instead because they offer a better level of service.