Connection under demanding conditions

Trackwise has two divisions: IHT, which has created a patented, proven technology (IHT) for making flexible, multi-layer printed circuits of unlimited length and APCB, which makes standard-size printed circuits. Management believes it is the only company globally that can manufacture such long multi-layer flexible printed circuits, which offer a lightweight, compact and easier-to-install alternative to wiring harnesses suitable for use in many industries. Trackwise has been generating revenues from sales of prototype IHT circuits for the last three years and is scheduled to start work on its first series production order, which is from a UK manufacturer of electric vans and buses, in early 2022. It has signed a seven-year supply agreement with CathPrint, which has created a novel technique for manufacturing medical catheters. It is also working on development projects as diverse as ice protection systems on aircraft, unmanned aerial vehicles, satellites, nuclear fusion and motor windings.

Financials: H121 results show progress in both divisions

H121 group revenues of £4.1m show progress in the improved harness technology (IHT) division, where revenues of £0.6m were 95% of the total reported for the whole of FY20, and in the APCB division, where revenues were 6% higher than H220 despite supply chain shortages. While the APCB division remained cash-generative, its profitability was adversely affected by supply chain shortages and coronavirus-related disruption, which resulted in operational inefficiencies so group adjusted EBITDA reduced by £0.2m compared with H220 to £0.5m. The IHT division is still consuming cash. Net cash (excluding IFRS 16 leases) reduced by £8.8m during H121 to £2.6m as management invested £8.7m in plant and property, primarily at the new Stonehouse site. The cash outflow and the remainder of the cost of fitting out the site is covered by the £12.6m raised in December 2020 through a placing and open offer as well as part of the £7.0m from the recent fundraising.

At current levels (90.2p) Trackwise is trading on an EV/sales multiple for year 2 that is below the peer average and an EV/EBITDA multiple that is in line with the peer average. Because Trackwise’s IHT activity supports revenue growth that is substantially faster than the average for our sample, in our view a premium to the mean may be justified. Moreover, the IHT business has the potential to deliver growth that is faster than the average for our sample, not just for the period covered by our estimates, but for at least several years beyond that. In our view, the peer multiples-based approach therefore fails to recognise the potential of the IHT activity in the longer term, which is why we supplement it with a scenario analysis. Furthermore, our estimates take a cautious stance for potential FY22 IHT revenues because the Stonehouse site has not begun operation yet and our EV value is distorted by the inclusion of cash from the recent fundraising.

The main sensitivities as we see them are supply chain shortages, which have the potential to adversely affect the group both directly and indirectly; dependence on individual customers, particularly the UK EV OEM; IP protection and exposure to change in exchange rates of the euro and US dollar.

Trackwise listed on AIM in July 2018 to maximise the opportunity for its patented, proven technology, IHT or Improved Harness Technology, for making flexible, multi-layer printed circuits of unlimited length. Management believes that Trackwise is the only company globally that can manufacture such long flexible circuits. IHT enables designers to reduce the weight of wiring harnesses in aeroplane structures, for example, by up to 75%, thus improving fuel efficiency, reducing carbon emissions and saving cost. The ability to save weight is also key in the automotive industry, especially EVs. Since the technology reduces bulk compared with conventional wiring harnesses and can withstand higher temperatures, it is also being used in applications as diverse as the medical catheter market, nuclear fusion and motor windings. Customers include EV OEMs, medical device manufacturers, GKN Aerospace and other aerospace OEMs. Revenues from the IHT division currently account for less than one-fifth of Trackwise’s revenues, with the remainder from its APCB division. However, management’s aim is for IHT to become the dominant activity.

Trackwise’s APCB division makes standard-length printed circuits. Applications include antennae used primarily in 4G and 5G network infrastructure, as well as circuits used in gas sensors, telecommunications components, industrial controls and medical devices. Customers include Ion Science, Leonardo, QPI and Qualcomm.

The funds raised at the time of the IPO and in two subsequent fundraisings (see Exhibit 1) have been used to substantially expand IHT capacity, as will part of the proceeds from the fundraising activity announced in December 2021. Trackwise purchased Stevenage Circuits in March 2020 so it could transfer conventional PCB manufacturing from its site in Tewkesbury, where its headquarters are located, to Stevenage, freeing the Tewkesbury site to focus on IHT activity. As the group needed additional capacity to support the volume order from the UK EV OEM, it purchased a new site in Stonehouse in April 2021. When the Stonehouse site comes online in Q122, it will be used for high-volume, low-mix IHT work, with the Tewkesbury site used for low-volume development projects. The group employs around 130 people across these three sites. 18% of all H121 revenues were attributable to exports to mainland Europe, 7% to exports elsewhere.

Almost all electronic devices use PCBs to connect components together. Before PCBs started to be widely used in the 1950s, individual electronic components were connected to each other manually using wires. This was time-consuming, error-prone and expensive. In the simplest form, a single-sided PCB, a design of conductive tracks is created on a non-conductive board by using chemical etching to remove unwanted copper. Components are then attached on the surface of the board so that the conductive tracks connect them up. The substrate provides a mechanical support for both conductive tracks and components.

More complex designs are typically double-sided because tracks on a single-layer board cannot cross each other. Multi-layer PCBs are required for the most complex circuits. These consist of multiple layers (up to 50) of insulating substrates with conductive tracks etched onto both sides. The substrate layers are sandwiched together with the insulating substrate stopping each of the copper layers from touching and forming an electrical connection. The connective tracks loop around each other, passing from layer to layer through conductive regions, which are formed by drilling through the insulating substrate and depositing conductive material on the drilled area to make an electrical connection through the hole. Manufacturers of electronic equipment typically outsource PCB production to third parties.

Conventional manufacturing processes limit the size of PCBs to a length of 610mm. These restrictions mean that PCBs are only used to connect electrical components that are relatively close to each other. To connect components that are further apart, for example at either end of an aircraft wing or from the rear lights of an automotive to the dashboard, individual wires still need to be used. If there are multiple wires going from one part of an aircraft wing to another (for example), the wires are usually bundled together to form a wiring harness.

Trackwise has developed a proprietary process termed IHT, parts of which are patented, for manufacturing unlimited length, multi-layer, flexible printed circuits. This is beginning to be adopted as a lightweight, cost-effective alternative to traditional wiring harnesses in the automotive, aerospace, medical, space, scientific and industrial markets. In the same way that conventional PCBs transformed the electronic industry in the 1950s by displacing traditional wiring harnesses in electronic devices, IHT has the potential to displace wiring harnesses outside electronic devices. Since IHT is a refinement of the techniques Trackwise uses for the longer-length printed circuit boards for the antenna market, it has the transformative potential of a new technology but with much less risk.

The key benefits of the technology for users are:

Trackwise’s process is an evolution of existing techniques for manufacturing flexible printed circuits that adapts the processing steps (drilling, imaging, pressing and plating) so that previous length restrictions are removed.

Trackwise’s process patent incorporates the use of a continuous press to define a method for creating length-unlimited flexible, multi-layer printed circuits. While the other process adaptations have not been patented, they represent a significant body of IP which is unique to Trackwise and provides a substantial barrier to entry. Trackwise has a two-year exclusivity period with regards to the adaptations worked on with the equipment supplier for the direct imaging system.

In May 2021, Trackwise acquired a 6,947m2 freehold property in Stonehouse, Gloucestershire, for £2.8m. Management expects that the site purchase and expenditure on associated equipment will collectively total around £9m, which is being funded from the £12.6m raised in December 2020. The company is in the process of installing an automated roll-to-roll IHT production line at the site, which it expects will start production at end Q122 and be fully operational by June 2022. Once operational, the Stonehouse site will be used for high-volume/low-mix IHT work, initially production for the EV OEM, and the 1,812m2 Tewkesbury site for low-volume development projects. The Stonehouse site has capacity for the installation of a second line in the future.

While there are dozens of companies globally that can manufacture multi-layer flexible printed circuits, management believes that Trackwise is the only company to have extended this capability to manufacture multi-layer flexible circuits that are longer than 5m. Additionally, while there are a few companies that can offer extremely long single- or double-sided circuits, it believes that no one else has worked out how to combine the layers to form a workable multi-layer device. While it is feasible that other companies with flexible circuit expertise would be able to modify their processes to manufacture extremely long single- or double-layer circuits, Trackwise has the first-mover advantage. This is particularly beneficial in applications such as medical devices and aerospace where products have to go through lengthy customer and regulatory approvals. Additionally, Trackwise has patented the process required to press individual circuits together to form a multi-layer circuit.

Our independent research found that Andus Electronic in Germany claims to be able to manufacture flexible, multi-layer circuits up to 20m long, which were used in the Mars Rover, and US-based All Flex offers multi-layer flexible circuits in lengths up to 40 feet (12 metres) as a replacement for wiring harnesses including a variant specifically for catheters. Our research did not find a company able to manufacture multi-layer flexible printed circuits of the same length as Trackwise. We believe that most companies manufacturing low volumes of flexible printed circuits will not have the ability to invest in the R&D or capital equipment required to develop a rival to IHT.

Trackwise has been manufacturing advanced PCBs since before the development of its IHT technology. Until the group’s admission to AIM in 2018, the larger, long-established APCB business generated the cash for investment in the IHT activity. In April 2020 Trackwise acquired Stevenage Circuits (SCL), a company that generated £6.5m revenues and £0.4m adjusted EBITDA in the year prior to acquisition. Importantly, while SCL had the capacity to output up to £12m of advanced PCBs annually, a substantial amount of this was not utilised, enabling Trackwise to move its existing APCB activity, which generated £2.0m revenues in FY19, from Tewkesbury into the Stevenage site. This was quicker and less expensive than acquiring a completely new site for expansion of the group’s IHT activity. The acquisition also broadened the technical knowledge base, particularly in flexible circuits, strengthened the sales effort and created a larger customer base with opportunities for cross-selling.

The APCB division continues to generate cash. Its product portfolio includes PCBs for RF applications, high density interconnect (HDI) PCBs, microwave and RF PCBs, flexible and flex-rigid PCBs and multi-layer PCBs with up to 44 layers. The division offers quick-turnaround prototyping, pre-production and small production volumes in-house, with a route to higher-volume, offshore manufacturing in Asia through partners in Hong Kong. (Most European and North American PCB manufacturers outsource high-volume production to Asia.) It serves a diverse range of markets including defence, aerospace, space, telecommunications, medical, industrial controls and oil & gas. Customers include Ion Science, which manufactures gas detection instruments, UK defence contractor Leonardo, supplier of specialist electronics for the semiconductor industry QPI, and wireless semiconductor developer and supplier Qualcomm.

There are dozens of relatively small companies in North America and Europe that manufacture PCBs requiring specialist substrates such as those required for RF applications. These include GSPK Circuits, PW Circuits and Teledyne Labtech in the UK and Advanced Circuitry International, Cirexx and Epec Engineered Technologies in the United States. Trackwise’s APCB business is focused on prototype and lower-volume PCBs, particularly those using specialist substrates. This niche is relatively unattractive to high-volume PCB manufacturers working with conventional substrates, most of which are based in China, because they rely on making boards in very high volumes to be economic.

Trackwise’s most immediate opportunity is the automotive sector where it has a four-year manufacture and supply contract worth up to £54m with a UK manufacturer of electric vans, buses and cars. Production for this order is scheduled to commence in Q122. Trackwise has been manufacturing low volumes of parts for this customer since February 2020. The contract covers the supply of flexible printed circuits used for both power collection and cell monitoring in a high voltage battery module, which is used across all of the OEM’s different vehicle platforms. It also covers the supply of pack level interconnect. The OEM is well funded and starting to roll out its innovative modular micro-factories in the UK, United States and EU. The demand modelled in the supply agreement with Trackwise is underpinned by the OEM’s own customer orders and non-binding letters of intent. Trackwise has received the 2022 production forecast from this customer, which is H2 biased as the EV OEM's UK and US manufacturing capacity comes online, and the Q122 (£0.4m) and Q222 (£2.4m) purchase orders. The EV opportunity continues to expand as Trackwise supplies early-stage samples to other companies in the EV sector including responding to a request from a large European OEM for cell-to-pack interconnect flex up to 2.4m in length, which is ideal for roll-to-roll manufacture. Trackwise is part way through the supplier registration process with this OEM.

Trackwise is working with seven medical catheter manufacturers. The samples for medical devices that Trackwise shipped in FY20 to its lead catheter company, which is a large US medical OEM, worked as designed in trials, potentially leading to production revenues in FY22 (which we treat as upside to our estimates.) Production volumes for a single catheter model could be in the tens or hundreds of thousands of parts per year and worth high single-digit millions of dollars annually. As discussed in our May flash note, Trackwise has signed a seven-year agreement with CathPrint, which has created a novel technique for manufacturing advanced catheters. Assuming the ongoing development project supplying IHT to CathPrint is successful, this potentially represents sales of significant volumes of IHT for medical applications for a five-year period from FY23 onwards. CathPrint provided the funding for a new palladium/gold plating line at Trackwise’s Tewkesbury site.

Trackwise is working with over 30 aerospace OEMs and suppliers including GKN on a system for preventing ice forming on aircraft wings, four developers of electric vertical take-off and landing vehicles (eVTOLs), two developers of business jets and two developers of high-altitude pseudo-satellites (HAPS). The company is working on multiple independent projects with a European aerospace OEM including a flying wing demonstrator. Management estimates that one or more of the projects in this sector could progress to production revenues within two to three years. The sector is likely to become a significant market for Trackwise because the additional weight associated with deploying batteries in all-electric aircraft needs to be offset somehow and replacing traditional wiring harnesses with IHT helps with this.

Trackwise’s advanced PCBs are deployed in a wide range of markets including industrial controls, medical, commercial and military aerospace and space, and communications. Demand for advanced PCBs is likely to continue to grow in each of these sectors, driven by the desire to share increasing amounts of data.

Ian Griffiths – non-executive chairman: Ian joined Trackwise on its admission to AIM in July 2018. He has wide-ranging international experience of the engineering business-to-business sector at both strategic and operational levels, having spent nearly 30 years with GKN. He served as a non-executive director of AIM-listed Autins Group between 2016 and March 2021, of Ultra Electronics Holdings from 2003 to 2012 and of Renold from 2010 to 2019 and was non-executive chairman of Hydro International between 2014 and 2016.

Philip Johnston – chief executive officer Philip’s early career was in the space industry, which included a key management role in the prime contractor team for Envisat, a large European satellite company, managing multi-million Euro work packages involving different companies across Europe. Philip joined Trackwise in 1999 and led a management buyout of the company in 2000. He is the named inventor on several UK and international patents, including the IHT patents, and has led several government-supported R&D consortiums including a European CleanSky programme.

Mark Hodgkins – chief financial officer: Mark is chartered accountant, a former audit partner with Grant Thornton and corporate finance partner with Ernst & Young. Since 2005 he has served as CEO of several engineering businesses and a private industrial holding company and CFO of a £120m private business. His involvement with Trackwise began in May 2016, following which he was appointed to a director’s role in December 2017. Mark has announced his intention of stepping down from his position at the AGM in 2022 to pursue a portfolio career, so the board has commenced a search for his successor.

The main sensitivities as we see them are:

H121 group revenues increased by 71% year-on-year to £4.1m, reflecting the acquisition of Stevenage Circuits (SCL) in March 2020 and a 131% jump in IHT revenues to £0.6m. The results show progress in both IHT and APCB activities. IHT revenues were 95% of the total reported for the whole of FY20 and were backed by deliveries to the UK EV OEM and an industrial customer. H121 revenues in the APCB division were 6% higher than H220 (this is a better comparator than H121 because SCL was acquired partway through H120), despite supply chain shortages.

Gross margin declined by 6.1pp compared with H220 to 29.0%. While Trackwise was able to pass price increases caused by supply chain shortages, particularly for copper, onto its customers, temporary shortages of materials and disruptions to working patterns caused by the coronavirus resulted in operational inefficiencies. Adjusted group EBITDA reduced by £0.2m compared with H220 to £0.5m. We estimate that around £0.1m of this reduction related to lower gross profit, the remainder to higher indirect costs as the group prepared for expansion onto the Stonehouse site, for example appointing a chief operating officer. The group generated an adjusted operating loss of £0.1m compared to an adjusted operating profit of £0.2m in H220.

Net cash (excluding IFRS 16 leases) reduced by £8.8m during the period to £2.6m at end June 2021. Working capital requirements increased by £1.2m, around half of which was attributable to a rise in debtors. Capital expenditure was £8.7m which includes £2.7m of deposits for equipment that is allocated in Other Receivables. An estimated £1.2m of the expenditure related to SCL to further improve capacity and efficiency, the bulk of the remainder to the acquisition and fitting out of the new Stonehouse site. In August management completed a £2.0m mortgage facility and agreed a £1.3m asset financing facility, which was undrawn at the time of the interims in September. We model a £5.4m increase in borrowings during FY21 to cover this.

The order book at the end of October 2021 was £3.3m, of which £1.3m was for delivery in the remainder of FY21, resulting in management guidance of c £8.0m total revenues for FY21. The APCB order book was £2.7m including £1.1m for FY21 delivery. This implied lower Advanced PCB revenues during FY21 than we had expected, leading us to downgrade our FY21 and FY22 estimates in December (our estimates have not been changed since then). The implied reduction in Advanced PCB revenues during H221 is attributable to weaker demand from two significant customers, both of which are related to supply-chain issues in the wider electronics industry. The IHT order book at the end of October was £0.5m, of which £0.1m was for FY21 delivery. This was in line with our previous estimate and our FY21 IHT revenue estimate was not changed in December.

For the 10 months ended October 2021, Trackwise generated total revenues of £6.6m (unaudited) compared with £6.1m in FY20. IHT revenues contributed £1.1m compared with £0.6m in the whole of FY20, showing an acceleration in activity in this segment. Gross margin was only 16%, indicating a further decline since H121. EBITDA (adjusted for exceptional items and share-based payments) was £0.9m compared with £0.8m in FY20. We reduced our FY21 gross margin estimate in December to reflect the depressed H221 margin. As the Stonehouse site will not be fully operational until June 2022, some of the manufacturing steps will be outsourced up to that point, with a negative effect on gross margin. We therefore reduced our FY22 gross margin estimate in December as well.

Net debt (excluding IFRS 16 leases) at end October 2021 was £2.4m. The company has an invoice discounting facility with HSBC of up to £0.8m, which was undrawn at the end of October and is increasing to £2.3m. Trackwise also has a £1.0m asset financing facility, of which £0.3m was drawn at the end of October 2021 and an undrawn new £2.5m asset financing facility for which it had expected to receive lender approval before 31 December 2021. Our FY21 and FY22 estimates both model a sharp increase in working capital requirements to reflect changes in supplier payment terms and a shift to prepayments, as well as higher levels of holdings of key materials.

In June 2021 Trackwise announced that its UK EV OEM customer had delayed volume ramp-up by a quarter to early FY22 and extended the term of the manufacture and supply agreement from three to four years, raising the aggregate value for the contract by £16m to up to £54m. This potentially represents IHT revenues of £16–17m in FY23 and FY24. The level in FY22 will depend on the rate of ramp-up during Q122 and, according to management, could be over £19m. We also note the contract with the EV OEM provides for penalty payments to Trackwise if the OEM does not take a minimum volume of IHT circuits each year during the duration of the contract. At current prices, this minimum volume represents FY22 revenues significantly greater than £13m. Our estimates take a cautious approach, modelling £13m EV revenues in FY22. We did not change either our FY21 or FY22 IHT revenue estimates in December 2021.

Fundraising programme raises £7.0m (gross)

Trackwise has raised £6.0m through an oversubscribed placing and subscription at 80p/share that was approved at a general meeting in January, plus a further £1.0m through an oversubscribed open offer, also at 80p/share, which completed in early January. The funds raised will be used primarily to provide growth working capital. £0.9m will be used to purchase an additional direct imaging machine to provide more capacity to support the EV OEM.

Trackwise’s share price dropped sharply from 145p on the announcement of the recent fundraising at 80p/share. At current levels (92p) Trackwise is trading on an EV/sales multiple for year 2 that is below the peer average and an EV/EBITDA multiple in line with the peer average. Because Trackwise’s IHT activity supports revenue growth that is substantially faster than the average for our sample, in our view a premium to the mean may be justified. Moreover, the IHT business has the potential to deliver faster growth than the average for our sample not just for the period covered by our estimates, but for at least several years beyond that. In our view, the peer multiples-based approach therefore fails to recognise the potential of the IHT activity in the longer term, which is why we supplement it with a scenario analysis. Furthermore, our estimates take a cautious stance for potential FY22 IHT revenues because the Stonehouse site has not started operation yet and the EV value is distorted by the inclusion of cash from the recent fundraising, much of which will be invested in working capital and capital equipment, and the magnitude of which is material compared with Trackwise’s market capitalisation.

Although we do not present detailed estimates for FY23 and beyond, we have created a scenario analysis to indicate what group revenues and profits would look like for different levels of utilisation of the new Stonehouse site. These scenarios assume that gross margins for the APCB and IHT activities remain at FY22 levels, that the incremental indirect costs are £0.1m for each additional £1.0m of IHT revenues and that the capital cost of a second production line at Stonehouse is £8.0m, funded through bank borrowings, though management may opt for another financing mechanism. The scenarios modelled are:

The current EV customer is adopting a micro-factory model and intends to build two small factories in the United States in addition to its factory in the UK. It is therefore possible that Trackwise may decide to construct an IHT facility close to one of these factories rather than expanding the Stonehouse facility, or to license the technology to a manufacturing partner that already has facilities close to those of the EV OEM.